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    .05 Motorola, Inc. 2005 Annual Report


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    Motorola is known around the world for innovation and leadership in wireless and broadband communications. Inspired by our vision of Seamless Mobility, the people of Motorola are committed to helping you get and stay connected simply and seamlessly to the people, information, and entertainment that you want and need. We do this by designing and delivering “must have” products, “must do” experiences and powerful networks -- along with a full complement of support services. A Fortune 100 company with global presence and impact, Motorola had sales of US $36.8 billion in 2005. For more information about our company, our people and our innovations, please visit www.motorola.com.


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    March 2006 Fellow Stockholders, Last year, I told you that 2004 had been ""A Year of Progress'' and I made a commitment that 2005 would be ""A Year to Win.'' Thanks to the hard work of the Motorola team, I'm proud to tell you that Motorola and its stockholders did win in 2005. ‚ We continued to deliver on our commitments to proÑtably grow market share and increase customer satisfaction. ‚ Our key Ñnancial metrics Ó including revenue growth, the ratio of operating earnings to sales, revenue per employee, operating cash Öow and inventory turns Ó continued to improve year over year. ‚ We're partnering on many new engagements with our customers and partners worldwide around our vision of Seamless Mobility. 2005 Ì Extraordinary Financial Strength In 2005 we made great progress on a number of fronts. We achieved record sales of $36.8 billion, up 18% from 2004. That's $5.5 billion of incremental revenue in ONE year. We shipped 146 million handsets in 2005, up 40% from 2004 Ó the largest percentage increase in the industry Ó and solidiÑed our position in the wireless handset industry with an estimated 18% global market share. Motorola is now in a position of strength. Operating margin increased to 12.7% in 2005 Ó up from 10.0% in 2004. Earnings from continuing operations increased 110% in 2005 as compared to 2004, and we generated operating cash Öow of $4.6 billion. Our balance sheet, with more than $10.5 billion in net cash, is the best in Motorola's history. With this extraordinary Ñnancial strength, Motorola's Board of Directors authorized a 36-month, $4.0 billion stock repurchase program Ó the Ñrst in Motorola's history. This decision underscores our Ñnancial and operational success, the Board's conÑdence in Motorola's long-term prospects and our aggressive focus on enhancing shareholder value. The most signiÑcant impact of all these numbers can be boiled down to this: Motorola's publicly- traded common stock increased in value by more than 30% in 2005. 2006 and Beyond Ì Owning Seamless Mobility Motorola's vision for Seamless Mobility means people have easy, uninterrupted access to information, entertainment, communication, monitoring and control. We're capitalizing on creating industry-leading technology to drive this paradigm shift. Our investments over the past two years demonstrate our view of the future: ‚ Mobile Internet (802.16e, 4G Ó all-IP networks) ‚ Broadband to the home (IPTV, video, FTTX, VoIP) continued Ó


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    ‚ Next-generation public safety (mission-critical data, video, security, MESH and ad hoc networking) ‚ Cool devices to cool experiences (multimedia/content convergence) ‚ Next-generation service delivery infrastructure platform (Softswitch/IMS) ‚ Fixed mobile convergence and multimode devices (WiFi, WiMax, 3G) Motorola has taken a leadership role in ""connecting the unconnected'' in emerging markets through its partnership with the GSM Association and other industry leaders. In addition, to help telecom operators connect the next billion subscribers by 2010, Motorola has introduced a range of aÅordable network solutions called Motorola Reach, featuring GSM base stations, wireless backhaul oÅerings, a media gateway and alternative power sources. As the innovator in mobile communications, Motorola sees these exciting initiatives and opportunities not only as the future of our business but the mobile communications industry as a whole. The world is about to experience the next generation of the Internet: The Internet is going mobile. Motorola was there at the birth of mobile communications, and we're prepared to be the leader now. Our heritage of innovation was showcased when we were awarded the 2004 National Medal of Technology, the highest honor awarded by the U.S. President to America's leading innovators. The prestigious award recognizes Motorola for its outstanding contributions to America's technological innovation and competitiveness. As we have for nearly four decades, we're helping our customers not just think about mobile communication but think diÅerently about it. Mobile Me . . . what's that all about? At Motorola, we know it's all about the continuity of experience. We intend to deliver the most wickedly compelling mobile experiences. But we won't do it alone. We're partnering with the best in every industry Ì the global leaders in each space. Our common link is our desire to innovate and win. Seamless Mobility is here, and the products and technologies in our portfolio today and tomorrow will continue to revolutionize people's lives. And we've only just begun. Motorola's going to own Seamless Mobility, where today's hottest technology is converging Ì where the Mobile Me lives Ì where mobile broadband means everything everywhere and anything anywhere. Let's continue to win, together! Ed Zander Chairman and CEO Motorola, Inc.


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    MOTOROLA, INC. 2005 FORM 10-K


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    UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K (conformed to reflect changes included in Form 10-K/A filed on March 7, 2006) ≤ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 2005 or n TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission File number 1-7221 MOTOROLA, INC. (Exact name of registrant as specified in its charter) DELAWARE 36-1115800 (State of Incorporation) (I.R.S. Employer Identification No.) 1303 East Algonquin Road, Schaumburg, Illinois 60196 (Address of principal executive offices) (847) 576-5000 (Registrant's telephone number) Securities registered pursuant to Section 12(b) of the Act: Title of Each Class Name of Each Exchange on Which Registered Common Stock, $3 Par Value per Share New York Stock Exchange Chicago Stock Exchange Rights to Purchase Junior Participating New York Stock Exchange Preferred Stock, Series B Chicago Stock Exchange Securities registered pursuant to Section 12(g) of the Act: None Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ≤ No n Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934. Yes n No ≤ Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ≤ No n. Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. n Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of ""accelerated filer and large accelerated filer'' in Rule 12b-2 of the Exchange Act. Large accelerated filer ≤ Accelerated filer n Non-accelerated filer n Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes n No ≤ The aggregate market value of voting and non-voting common equity held by non-affiliates of the registrant as of July 1, 2005 (the last business day of the Registrant's most recently completed second quarter) was approximately $45.1 billion (based on closing sale price of $18.27 per share as reported for the New York Stock Exchange-Composite Transactions). The number of shares of the registrant's Common Stock, $3 par value per share, outstanding as of January 31, 2006 was 2,499,612,495. DOCUMENTS INCORPORATED BY REFERENCE Portions of the registrant's definitive Proxy Statement to be delivered to stockholders in connection with its Annual Meeting of Stockholders to be held on May 1, 2006 are incorporated by reference into Part III.


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    Table of Contents Page PART I ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 Item 1. Business ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 General ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 Business Segments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 Mobile Devices SegmentÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 Government and Enterprise Mobility Solutions SegmentÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5 Networks Segment ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 8 Connected Home Solutions Segment ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 12 Other InformationÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16 Financial Information About Segments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16 Customers ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16 Backlog ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17 Research and Development ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17 Patents and Trademarks ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17 Environmental Quality ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17 EmployeesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17 Financial Information About Foreign and Domestic Operations and Export Sales ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17 Available Information ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 18 Item 1A. Risk FactorsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 19 Item 1B. Unresolved Staff Comments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 27 Item 2. Properties ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 27 Item 3. Legal Proceedings ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 27 Item 4. Submission of Matters to a Vote of Security Holders ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 34 Executive Officers of the Registrant ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 34 PART II ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 36 Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 36 Item 6. Selected Financial Data ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 37 Item 7. Management's Discussion and Analysis of Financial Condition and Results of OperationsÏÏÏÏÏÏÏÏ 38 Item 7A. Quantitative and Qualitative Disclosures About Market Risk ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 74 Item 8. Financial Statements and Supplementary Data ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 78 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure ÏÏÏÏÏÏÏ 122 Item 9A. Controls and Procedures ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 122 Item 9B. Other Information ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 124 PART IIIÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 124 Item 10. Directors and Executive Officers of the Registrant ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 124 Item 11. Executive Compensation ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 124 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 125 Item 13. Certain Relationships and Related TransactionsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 125 Item 14. Principal Accountant Fees and Services ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 125 PART IVÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 126 Item 15. Exhibits and Financial Statement Schedules ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 126 15(a)(1) Financial Statements ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 126 15(a)(2) Financial Statement Schedule and Independent Auditors' ReportÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 126 15(a)(3) Exhibits ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 126 i


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    1 PART I Throughout this 10-K report we ""incorporate by reference'' certain information in parts of other documents filed with the Securities and Exchange Commission (the ""SEC''). The SEC allows us to disclose important information by referring to it in that manner. Please refer to such information. We are making forward-looking statements in this report. Beginning on page 19 we discuss some of the risk factors that could cause actual results to differ materially from those stated in the forward-looking statements. ""Motorola'' (which may be referred to as the ""Company'', ""we'', ""us'' or ""our'') means Motorola, Inc. or Motorola, Inc. and its subsidiaries, or one of our segments, as the context requires. ""Motorola'' is a registered trademark of Motorola, Inc. Item 1: Business General Motorola is a communications company providing end-to-end seamless mobility products. We build, market and sell products, services and applications that enable telephony, data and video to be experienced across multiple domains including home, enterprise, auto and ""mobile-me''. Our vision is to create the mobile Internet experience through seamless mobility. Motorola is known around the world for innovation and leadership in wireless, broadband and automotive communications. ‚ Wireless Handsets: We are one of the world's leading providers of wireless handsets, which transmit and receive voice, text, images, multimedia and other forms of information, communication and entertainment. Wireless Networks: We develop, manufacture and market public and enterprise wireless infrastructure communications systems, including hardware, software and services. Mission-Critical: We are a leading provider of customized, mission-critical end-to-end wireless communications and information systems. ‚ Broadband We are a global leader in developing and deploying end-to-end digital broadband entertainment, communication and information systems for the home and for the office. Motorola wireless and wireline broadband technology enables network operators and retailers to deliver products and services that connect consumers to what they want, when they want it. ‚ Automotive We are a market leader in embedded telematics systems that enable automated roadside assistance, navigation and advanced safety features for automobiles. We also provide integrated electronics for the powertrain, chassis, sensors and interior controls. Motorola is a corporation organized under the laws of the State of Delaware as the successor to an Illinois corporation organized in 1928. Motorola's principal executive offices are located at 1303 East Algonquin Road, Schaumburg, Illinois 60196.


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    2 Business Segments Motorola reports financial results for the following four operating business segments: Mobile Devices Segment The Mobile Devices segment (""Mobile Devices'' or the ""segment'') designs, manufactures, sells and services wireless handsets, with integrated software and accessory products. In 2005, the segment's net sales represented 58% of the Company's consolidated net sales. Principal Products and Services Our wireless subscriber products include wireless handsets, with related software and accessory products. We market our products worldwide to carriers and consumers through direct sales, distributors, dealers, retailers and, in certain markets, through licensees. Our Industry We believe that total industry shipments of wireless handsets (also referred to as industry ""sell-in'') increased to approximately 815 million units in 2005, an increase of approximately 17% compared to 2004. Demand from new subscribers was strong in emerging markets, including China, Latin America and Eastern Europe. Replacement sales in highly-penetrated markets were also strong due to generally improved economic conditions, as well as compelling new handset designs, attractive handset features and the increased roll-out in high-speed data networks, all creating a greater opportunity for personalization. In this environment, we were able to grow faster than the market and increase our overall market share. Industry forecasters predict that the wireless handset industry will continue to grow over the next several years. Continued growth will be driven by demand from new subscribers in emerging markets and replacement sales from a current subscriber base of over two billion users worldwide. Our Strategy The Mobile Devices segment is focused on profitable and sustainable growth. We believe we can accomplish our strategy by driving our seamless mobility vision, creating valuable differentiation of our products through design, and providing compelling, rich experiences to consumers and carriers. Motorola's vision of seamless mobility is to create an environment where end users are able to interact wirelessly using a handheld device to realize the experience of a mobile Internet. We are differentiating through design by offering the most compelling products in the six primary form factors in GSM, CDMA, iDEN» and 3G technologies. Motorola originally invented the clamshell phone and has reinvented it with the RAZR (V3) and PEBL (U6). We have also reinvented the candy bar phone with the SLVR (L7) to show leadership in that category, and the Q will launch in 2006, reinventing QWERTY-based productivity products. Our approach to providing rich experiences involves both partnerships and in-house initiatives. To deliver compelling experiences to the mobile user in the productivity, imaging and music segments, we have partnered with Microsoft, Kodak and Apple, as well as other leaders. Recent announcements with Yahoo! and Google maintain this momentum by enhancing the messaging and searching experience. We have already launched ""Screen 3'' to enable our carrier customers to offer rich services such as music and entertainment offerings to consumers with one-click access. Underpinning all of these activities is our investment in our Linux-based platform, which provides cost advantages, flexibility for carriers, and access to the world's leading community of application and software developers. We are extending our vision with our ""Connect the Unconnected'' strategy to bring mobile communications to underserved markets. This strategy has resulted in two major contracts with the GSM Association to provide mass- market handsets to developing regions of the world.


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    3 Customers The Mobile Devices segment customer partnership strategy continues to focus on strengthening relationships with our top customers. The segment has several large customers worldwide, the loss of one or more of which could have a material adverse effect on the segment's business. In 2005, purchases of iDEN» products by Sprint Nextel Corporation and its affiliates (""Sprint Nextel'') comprised approximately 13% of our segment's net sales. The largest of our end customers (including sales through distributors) are Sprint Nextel, Cingular, China Mobile, Amπerica Movilπ and T-Mobile. In addition to selling directly to carriers and operators, Mobile Devices also sells products through a variety of third-party distributors and retailers, which account for approximately 36% of the segment's net sales. The largest of these distributors, Brightstar Corporation, is our primary distributor in Latin America. Although the U.S. market continued to be the segment's largest individual market, many of our customers, and more than 60% of our net sales, are outside the U.S. The largest of these international markets are China, the United Kingdom, Brazil, Germany and Mexico. Compared to 2004, the segment experienced substantial sales growth in all regions of the world as a result of an improved product portfolio, strong market growth in emerging markets, and high replacement sales in more mature markets. On August 12, 2005, Sprint Corporation and Nextel Communications, Inc. completed their merger transaction (the ""Sprint Nextel Merger'') that was announced in December 2004. The combined company, Sprint Nextel, is the segment's largest customer and Motorola has been its sole supplier of iDEN handsets and core iDEN network infrastructure equipment for over ten years. Sprint Nextel uses Motorola's proprietary iDEN technology to support its nationwide wireless service business. Motorola is currently operating under supply agreements for iDEN handsets and infrastructure equipment that cover the period from January 1, 2005 through December 31, 2007. The segment did not experience any significant impact to its business in 2005 as a result of the Sprint Nextel Merger. Competition The segment believes it increased its overall market share in 2005 and solidified its hold on the second-largest worldwide market share of wireless handsets. The segment experiences intense competition in worldwide markets from numerous global competitors, including some of the world's largest companies. The segment's primary competitors are European and Asian manufacturers. Currently, its largest competitors include Nokia, Samsung, LG and Sony Ericsson. Our strategy of driving our seamless mobility vision, creating valuable differentiation of our products through design, and providing compelling, rich experiences (what we call ""mobile me'') to consumers and carriers is intended to enhance our market position. We also believe that it is critical to invest in research and development (""R&D'') of leading technologies and services to remain competitive. In 2005, the segment's total investment in R&D increased to support new product development. General competitive factors in the market for our products include: time-to-market; brand awareness; technology offered; price; product performance, features, design, quality, delivery and warranty; the quality and availability of service; company image and relationships with key customers. Payment Terms The segment's customers and distributors buy from us regularly with payment terms that are competitive with current industry practices. These terms vary globally and range from cash-with-order to 60 days. Payment terms allow the customer or distributor to purchase products from us on a periodic basis and pay for those products at the end of the agreed term applicable to each purchase. A customer's outstanding credit at any point in time is limited to a predetermined amount as established by management. Extended payment terms beyond 60 days are provided to customers on a case-by-case basis. Such extended terms are not related to a significant portion of our revenues. Regulatory Matters Radio frequencies are required to provide wireless services. The allocation of frequencies is regulated in the U.S. and other countries throughout the world, and limited spectrum space is allocated to wireless services. The


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    4 growth of the wireless and personal communications industry may be affected if adequate frequencies are not allocated or, alternatively, if new technologies are not developed to better utilize the frequencies currently allocated for such use. Industry growth may also be affected by the cost of the new licenses required to use frequencies and any related frequency relocation costs. The U.S. leads the world in spectrum deregulation, allowing new wireless communications technologies to be developed and offered for sale. Examples include Wireless Local Area Network systems, such as WiFi, and Wide Area Network systems, such as WiMax. Other countries have also deregulated portions of the available spectrum to allow these and other new technologies, which can be offered without spectrum license costs. Deregulation may introduce new competition and new opportunities for Motorola and our customers. Backlog The segment's backlog was $3.0 billion at December 31, 2005, compared to $1.5 billion at December 31, 2004. The 2005 backlog is believed to be generally firm and 100% of that amount is expected to be recognized as revenue in 2006. The forward-looking estimate of the firmness of such orders is subject to future events that may cause the amount recognized to change. In 2005, the segment had strong order growth and backlog increased due to: (i) high levels of customer demand for new products during the fourth quarter, certain of which were unable to be shipped in significant quantities due to supply constraints for select components, and (ii) the segment's higher level of general order input in the fourth quarter of 2005 compared to the fourth quarter of 2004. Intellectual Property Matters Patent protection is extremely important to the segment's operations. The segment has an extensive portfolio of patents relating to its products, technologies and manufacturing processes. The segment licenses certain of its patents to third parties and generates revenue from these licenses. Motorola is also licensed to use certain patents owned by others. Royalty and licensing fees vary from year to year and are subject to the terms of the agreements and sales volumes of the products subject to licenses. The protection of these licenses is also important to the segment's operations. Reference is made to the material under the heading ""Other Information'' for additional information relating to patents and trademarks and research and development activities with respect to this segment. Inventory, Raw Materials, Right of Return and Seasonality The segment's practice is to carry reasonable amounts of inventory in distribution centers around the world in order to meet customer delivery requirements in a manner consistent with industry standards. At the end of 2005, the segment had a slightly higher inventory balance than at the end of 2004. The increased inventory was due to select component shortages in the fourth quarter of 2005 and the need to support higher anticipated first-quarter 2006 sales compared to the first quarter of 2005. Availability of materials and components required by the segment is relatively dependable, but fluctuations in supply and market demand could cause selective shortages and affect results. We currently source certain materials and components from single vendors. Any material disruption from a single-source vendor may have a material adverse impact on our results of operations. Energy necessary for the segment's manufacturing facilities consists primarily of electricity and natural gas, which are currently in generally adequate supply for the segment's operations. In addition, the cost to operate our facilities and freight costs are dependent on world oil prices. A substantial increase in worldwide oil prices could have a negative impact on our results of operations. Labor is generally available in reasonable proximity to the segment's manufacturing facilities. However, difficulties in obtaining any of the aforementioned items could affect the segment's results. The segment permits returns under certain circumstances, generally pursuant to warranties which we consider to be competitive with current industry practices. The segment typically experiences increased sales in the fourth calendar quarter and lower sales in the first calendar quarter of each year. However, the segment expects less than normal seasonal sales decline in the first quarter of 2006 due to the strength of the new product portfolio.


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    5 Our Facilities/Manufacturing Our headquarters are located in Libertyville, Illinois. Our major facilities are located in Libertyville, Illinois; Flensburg, Germany; Tianjin, China; Singapore; Jaguariuna, Brazil and Malaysia. During the year, we ceased manufacturing and/or distribution in our facilities in Plantation, Florida and Seoul, Korea. We also maintain an interest in a joint venture in Hangzhou, China. We also use several electronics manufacturing suppliers (""EMS'') and original design-manufacturers (""ODM'') to enhance our ability to lower our costs and deliver products that meet consumer demands in the rapidly-changing technological environment. On a unit basis, approximately one-third of our handsets were manufactured (either completely or substantially) by non-affiliated EMS and ODM manufacturers. In 2005, our handsets were primarily manufactured in Asia. We expect this to continue in 2006. Our largest manufacturing facilities are located in China, Singapore, Brazil and Malaysia. Each of these facilities serves multiple countries and regions of the world. During the year, we stopped manufacturing handsets in Korea. In addition to our own manufacturing in Asia, the EMS and ODM manufacturers we utilize primarily manufacture in Asia. Government and Enterprise Mobility Solutions Segment The Government and Enterprise Mobility Solutions segment (the ""segment'') is a leading provider of: (i) mission-critical wireless communications systems for government and public safety markets worldwide, (ii) business-critical wireless devices, networks and applications focused around mobile computers and the mobile office for world-class enterprise organizations, and (iii) electronics and telematics systems that enable automated roadside assistance, navigation and advanced safety features for automobile manufacturers worldwide. In 2005, the segment's net sales represented 18% of the Company's consolidated net sales. Principal Products and Services Government: We design, manufacture, sell, install and service two-way radio, voice and data communications products and systems to a wide range of public safety and government customers worldwide. Other offerings include: biometrics, integrated information management, computer-aided dispatch systems and records management systems. Enterprise: We provide business-critical wireless mobility devices, networks and applications that enable an enterprise customer to seamlessly connect its people, assets and information. Enterprise customers include utility, courier, transportation, field services and other companies with disseminated workforces. Offerings include: mobile office devices, rugged mobile computing handhelds, private and public business communication networks, enterprise-grade wireless security systems, and end-to-end systems and applications that deliver enterprise mobility. Automotive: We deliver embedded telematics systems that enable automated roadside assistance and advanced safety features for automobiles. Additionally, we provide integrated electronics for the powertrain, chassis, sensors and interior controls within the vehicle. The segment's products are sold directly through our own distribution force or through independent authorized distributors and dealers, commercial mobile radio service operators and independent commission sales representatives. The segment's distribution organization provides systems engineering and installation and other technical and systems management services to meet our customers' particular needs. The customer may also choose to install and maintain the equipment with its own employees, or may obtain installation, service and parts from a network of our authorized service stations (most of whom are also authorized dealers) or from other non- Motorola service stations. Our Industries Government: Natural disasters and terrorist-related worldwide events in 2005 continued to place an emphasis on mission-critical communications systems at the local, state and nationwide levels. As a global leader in mission- critical communications, we expect to continue to grow as spending increases worldwide for mission-critical communications systems. To date, Motorola has been awarded contracts for digital, statewide interoperable mission-critical networks in the U.S. Additionally, the segment has received significant contracts throughout many international markets. Motorola continues to be well-positioned to serve the increased worldwide demand for these systems in 2006 and beyond.


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    6 Enterprise: Increasingly, businesses are requiring more complex communications systems to support business- critical communications. Motorola's heritage of providing complex, secure, mission-critical communications makes us uniquely qualified to provide the business-critical reliability, security and connectivity that enterprise customers demand. Automotive: 2005 was a challenging year for automobile manufacturers and suppliers, primarily in North America. A number of our key automotive customers lost market share in 2005, which impacted our business results. As a leading global supplier in the automotive electronics industry, Motorola is constantly assessing ways to enhance the strategy of its automotive electronics business. Our Strategy The segment is the leading provider of mission-critical systems worldwide, with more than 65 years of experience in custom, rugged devices, public safety-grade private networks, sophisticated encryption technology, interoperable voice and broadband data, and complex network design, optimization and implementation. We believe that Motorola is best positioned to deliver seamless, secure and integrated point solutions across the enterprise, vehicle and home, as well as across other wireless applications and communications systems. Government: Key elements in our government strategy include: (i) providing integrated voice, data and broadband over wireless systems at the local, state and national levels, (ii) benefiting from the ongoing migration from analog to digital end-to-end radio systems, (iii) providing Project 25 and TETRA standards-based voice and data networking systems around the world, and (iv) implementing interoperable communications and information systems, especially related to global homeland security. Enterprise: Key elements in our enterprise strategy include offering a comprehensive portfolio of products and services to help businesses: (i) streamline their supply chains, (ii) improve customer service in the field, (iii) increase data collection accuracy, and (iv) enhance worker productivity. Automotive: Key elements in our automotive strategy include: (i) optimizing Motorola's automotive product portfolio, (ii) investing in and protecting our core automotive business, (iii) enhancing Telematics to secure next- generation platforms, and (iv) expanding our business in Asia, particularly in China. Customers The principal Government customers are public safety agencies, such as police, fire, emergency management services and military. The principal Enterprise customers include enterprise businesses engaging in manufacturing, transportation, utilities, courier services, field services and financial services. The principal Automotive customers are large automobile manufacturers, primarily in North America. Net sales to our top five customers represented approximately 20% of our total net sales. The loss of one or more of these customers could have a material adverse effect on the segment's business. Net sales to customers in North America represented 69% of the segment's net sales. Competition Government: We provide communications and information systems compliant with both existing industry digital standards, TETRA and Project 25. We experience widespread competition from numerous competitors ranging from some of the world's largest diversified companies to foreign, state-owned telecommunications companies to many small, specialized firms. Many competitors have their principal manufacturing operations located outside the U.S., which may serve to reduce their manufacturing costs and enhance their brand recognition in their locale. Major competitors include: M/A-Com, EADS Telecommunications, Kenwood, EF Johnson and large system integrators. We may also act as a subcontractor to a large system integrator based on a number of competitive factors and customer requirements. As demand for fully-integrated voice, data and broadband over wireless systems at the local, state and national government levels continues, we may face additional competition from public telecommunications carriers. Competitive factors for our Government products and systems include: price; technology offered and standards compliance; product features, performance, quality and availability; and the quality and availability of support


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    7 services and systems engineering, with no one factor being dominant. An additional factor is the availability of vendor financing, as customers continue to look to equipment vendors as an additional source of financing. Enterprise: Demand for enterprise mobility products is driven by a number of competitors who deliver products in certain segments of the total Enterprise market. We believe that we have a unique portfolio to seamlessly connect people, assets and information to enable customers to grow their business, increase efficiency and improve customer satisfaction. Security and manageability are common throughout our portfolio, and we have the experience and expertise to deliver seamless, secure and rugged end-to-end solutions to the enterprise. Primary competitors include: Cisco, Nokia, Symbol and Intermec. Competitive factors for our Enterprise products and systems include: price; technology offered and standards compliance; network convergence and compatibility; product features, performance, quality and availability; and responsiveness to customers. Automotive: Demand for our automotive electronics products is linked to automobile sales in the United States and other countries and the level of electronic content per vehicle. Motorola is a leading provider of automotive electronics worldwide. Primary competitors in automotive electronics include: Bosch, Delphi, Visteon, Siemens and Denso. Competitive factors for our Automotive products and systems include: price; product quality; performance and delivery; supply integrity; quality reputation; responsiveness to customers; and design and manufacturing technology. Payment Terms Payment terms vary worldwide. Generally, contract payment terms range from net 30 to 60 days. As required for competitive reasons, we may provide or work with third-party lenders to arrange for long-term financing in connection with equipment purchases. Financing may cover all or a portion of the purchase price. Regulatory Matters Users of two-way radio communications are regulated by a variety of governmental and other regulatory agencies throughout the world. In the U.S., users of two-way radios are licensed by the FCC, which has broad authority to make rules and regulations and prescribe restrictions and conditions to carry out the provisions of the Communications Act of 1934. Regulatory agencies in other countries have similar types of authority. Consequently, the business and results of this segment could be affected by the rules and regulations adopted by the FCC or regulatory agencies in other countries from time to time. Motorola has developed products using trunking and data communications technologies to enhance spectral efficiencies. The growth and results of the two-way radio communications industry may be affected by the regulations of the FCC or other regulatory agencies relating to access to allocated frequencies for land mobile communications users, especially in urban areas where such frequencies are heavily used. The U.S. leads the world in spectrum deregulation, allowing new wireless communications technologies to be developed and offered for sale. Examples include Wireless Local Area Network systems, such as WiFi, and Wide Area Network systems, such as Wi4. Other countries have also deregulated portions of the available spectrum to allow these and other technologies, which can be offered without spectrum license costs. Deregulation may introduce new competition and new opportunities for Motorola and our customers. On February 7, 2005, Sprint Nextel agreed to a plan by federal regulators designed to address interference from iDEN phones with hundreds of public safety communications systems in the U.S. According to the FCC, the agreement should dramatically reduce the likelihood of interference. Sprint Nextel will be required to fund certain costs necessary to relocate those impacted users into the 800MHz spectrum. The segment will continue to work with our customers that are impacted by this plan and expects that this will have a neutral to positive impact on the segment's business over the next several years. However, the short-term impact remains uncertain and is yet to be quantified, as all of the details of the plan are not finalized. In February 2006, federal legislation was adopted setting February 17, 2009 as the date by which key 700MHz spectrum must be available for first responders throughout the U.S. This spectrum has historically supported broadcast television. It was designated for public safety back in 1997, however, prior to this new legislation, there was no certainty as to when it actually would be cleared for public safety use in major markets. Clearing TV from this band will significantly increase the spectrum public safety entities have available for communications systems capable of covering their jurisdictions. This new public safety spectrum is configured to support both voice and


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    8 data. Motorola already has both infrastructure and mobiles/portables shipping for deployment of public safety voice and data systems in this band. Backlog The segment's backlog was $2.4 billion at both December 31, 2005 and December 31, 2004. The 2005 backlog amount is believed to be generally firm, and 75% is expected to be recognized as revenue during 2006. The forward-looking estimate of the firmness of such orders is subject to future events that may cause the amount recognized to change. Intellectual Property Matters Patent protection is important to the segment's business. The segment has an extensive portfolio of patents relating to its products, technologies and manufacturing processes. Reference is made to the material under the heading ""Other Information'' for information relating to patents and trademarks and research and development activities with respect to this segment. We actively participate in the development of open standards for interoperable, mission-critical digital two-way radio systems. We have published our technology and licensed patents to signatories of the industry's two primary memorandums of understanding defined by the Telecommunications Industry Association (""TIA'') Project 25 and European Telecommunications Standards Institute (""ETSI'') Terrestrial Trunked Radio (""TETRA''). Royalties associated with these licenses are not expected to be material to the segment's financial results. Inventory, Raw Materials, Right of Return and Seasonality The segment provides custom products based on assembling basic units into a large variety of models or combinations. This requires the stocking of inventories and large varieties of piece parts and replacement parts, as well as a variety of basic level assemblies in order to meet delivery requirements. Relatively short delivery requirements and historical trends determine the amounts of inventory to be stocked. To the extent suppliers' product life cycles are shorter than the segment's, stocking of lifetime buy inventories is required. In addition, replacement parts are stocked for delivery on customer demand within a short delivery cycle. Availability of materials and components required by the segment is relatively dependable, but fluctuations in supply and market demand could cause selective shortages and affect results. We currently source certain materials and components from single vendors. Any material disruption from a single-source vendor may have a material adverse impact on our results of operations. Natural gas, electricity and, to a lesser extent, oil are the primary sources of energy for the segment's operations, which are currently in generally adequate supply for the segment's operations. In addition, the cost to operate our facilities and freight costs are dependent on world oil prices. A substantial increase in worldwide oil prices could have a negative impact on our results of operations. Labor is generally available in reasonable proximity to the segment's manufacturing facilities. However, difficulties in obtaining any of these items could affect the segment's results. Generally, we do not permit customers to return products. We typically have stronger sales in the fourth quarter of the year because of government and commercial spending patterns. Our Facilities/Manufacturing Our headquarters are located in Schaumburg and Deer Park, Illinois. Our major integration, manufacturing and distribution facilities are located in: Schaumburg, Illinois; Tianjin, China; Penang, Malaysia; Berlin and Taunusstein, Germany; Arad, Israel; Sequin, Texas; Elma, New York; Nogales, Mexico; and Angers, France. In addition to our own manufacturing, we utilize EMS manufacturers, primarily in Asia, in order to enhance our ability to lower our costs and deliver products that meet consumer demands. Networks Segment The Networks segment (""Networks'' or the ""segment'') designs, manufactures, sells, installs and services: (i) cellular infrastructure systems, including hardware and software, (ii) fiber-to-the-premise (""FTTP'') and


  • Page 16

    9 fiber-to-the-node (""FTTN'') transmission systems supporting high-speed data, video and voice, and (iii) wireless broadband systems. In addition, the segment designs, manufactures and sells embedded communications computing platforms. In 2005, the segment's net sales represented 17% of the Company's consolidated net sales. Principal Products and Services The segment provides end-to-end cellular networks, including radio base stations, base site controllers, associated software and services, mobility soft switching, application platforms and third-party switching for CDMA, GSM, iDEN» and UMTS technologies. The segment also provides: optical line terminals (""OLT'') and optical network terminals (""ONT'') for passive optical networks (""PON''); access points, subscriber modules and backhaul modules for wireless broadband systems; and advanced TCA and micro TCA communications servers. These products and services are marketed to wireless and wireline service providers worldwide through a direct sales force, licensees and agents. Our Industry We participate in multiple global markets within the wireline and wireless segments of the telecommunications industry. Our primary market is radio access cellular infrastructure systems. This market grew by approximately 10% in 2005 compared to 2004. This was the industry's second year of growth after three previous years of decline. We expect single digit growth for the worldwide cellular infrastructure industry in 2006. We also participate in the emerging PON and wireless broadband systems markets, which are expected to experience high growth in 2006. The majority of installed cellular infrastructure systems are based upon three fundamental technologies: CDMA, GSM and iDEN. We supply systems based on each of these technologies and are the sole supplier of proprietary iDEN networks. Advanced infrastructure systems based on these technologies include: GPRS, CDMA1X, and EDGE. We also supply systems based on these technologies. Some segments of the cellular infrastructure industry are in the process of migrating to 3G systems, which are high-capacity radio access wireless networks providing enhanced data services, improved Internet access and increased voice capacity. The primary 3G technologies are: W-CDMA (based on either UMTS or Freedom of Mobile Multimedia Access (""FOMA'') technologies) and CDMA2000 1xEVDO. An additional 3G technology standard is TD-SCDMA, driven primarily by the Chinese government and local Chinese vendors. 3G licenses are expected to be awarded in China during the second half of 2006. We supply systems based on UMTS and CDMA2000 1xEVDO technologies. Advanced infrastructure systems based on 3G technologies include High Speed Downlink Packet Access (""HSDPA'') and High Speed Uplink Packet Access (""HSUPA''). We are investing in HSDPA and HSUPA technologies. Commercial service of 3G technologies was first introduced in Asia and has expanded to Western Europe and North America. Industry standards bodies are in the process of defining the next-generation of wireless broadband systems after 3G. The Institute of Electrical and Electronic Engineers (""IEEE'') is currently developing fixed and mobile broadband standards (802.16d and 802.16e) based on Orthogonal Frequency Division Multiplexing (""OFDM technology''), which offer systems performance utilizing wider channels enabling triple play services (voice, data, video). Networks recently announced its MotoWi4 product portfolio that will be based the 802.16e standard. A new industry segment of non-traditional wireless broadband providers has emerged to provide alternative access in targeted markets. These new providers are using alternative access technologies such as Metro WiFi with 802.11 standards-based technology. In addition, alternative broadband providers are using non-standards based solutions such as Motorola's Canopy in licensed and unlicensed spectrum. The International Telecommunications Union (""ITU'') is also developing next-generation cellular wireless access standards (""4G'') for the cellular infrastructure industry, also anticipated to be based upon OFDM technology. Emerging markets such as China, India, the Middle East, Africa and Latin America are expected to begin their migration to next-generation technologies in 2006 and 2007. Because of the performance offered by OFDM and other alternative technologies, some emerging markets may forego the deployment of 3G systems and move directly to other technologies.


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    10 Our Strategy We are executing on a strategy to enable seamless mobility across multiple access technologies, including cellular, PON and wireless broadband. The segment continues to invest in the major cellular radio access technologies: CDMA, GSM, iDEN», CDMA2000 1x, GPRS, WiDEN, EDGE, CDMA2000 1x EVDO, UMTS, HSDPA and HSUPA. Wireline carriers such as Verizon, are expanding their strategic footprint. We are investing in PON technologies which will enable these carriers to deliver voice, data and video over fiber, replacing traditional copper wire connections. Many cellular operators, particularly in emerging markets, have not begun their migration to next-generation access technologies. In addition, wireline operators, such as cable providers, are looking for new ways to enhance their customer offering with the addition of a wireless option. Because of its projected early availability, low cost and superior performance, wireless broadband technology based on IEEE standard 802.16e represents a compelling alternative. In 2005, we announced our portfolio of MotoWi4 wireless broadband products based on this IEEE standard to address this fast growing market opportunity. A new industry segment of non-traditional wireless providers has also emerged. These new providers are using alternative access technologies such as Metro WiFi which is based on the IEEE's 802.11 standard to blanket entire geographic areas with broadband wireless coverage. Some alternative broadband providers are also using non- standards based solutions. We continue to invest in our MotoWi4 Canopy product which enables low cost, high speed Internet access to customers served by these providers. In addition to access, the seamless mobility strategy requires a converged core network capable of delivering a multiplicity of applications and services to consumers across multiple access technologies. This strategy enables consumers to receive these services seamlessly as they move from one access methodology to another. The segment will leverage its strong position in multiple access technologies and cellular Internet protocol (""IP'') core network capability to deliver next-generation converged core networks based on IP Multimedia Subsystem (""IMS'') architectures supporting seamless mobility. To facilitate rapid delivery of applications and services to consumers through the IMS core, Networks has developed the Global Applications Management Architecture (""GAMA'') platform providing a standard interface allowing third-party providers easy integration and deployment of their value-added services. Examples of these IP-based services include voice over IP (""VoIP''), Push-to-Talk, multi-party gaming, videoconferencing, messaging and content sharing. Networks has also compiled its own suite of internally, as well as externally, developed applications which will complete our end-to-end product offering. Our network products are further enhanced by a portfolio of services that reduce operator capital expenditure requirements, increase network capacity and improve system quality. These quality improvements benefit operators through increased customer satisfaction, greater usage and lower churn, all of which can have a positive impact on operator financial results. We also continue to build on our industry-leading position in push-to-talk over cellular (""PoC'') technology. We have executed agreements to launch our PoC product application on both GSM and CDMA2000 networks. Networks deployed PoC technology for 44 wireless carriers in 33 countries and territories in 2005. In addition, Networks has begun executing on its seamless mobility strategy with major contract wins in PON and wireless broadband. In 2005, we announced an agreement with Verizon to supply FTTP access equipment and related services enabling their triple play offering (voice, data and video). We also signed a contract with Earthlink to deliver equipment and services enabling them to become a Metro WiFi broadband provider in Philadelphia, Pennsylvania, Anaheim, California and other cities. Customers Due to the nature of the segment's business, the agreements we enter into are primarily long-term contracts with major operators that require sizeable investments by our customers. In 2005, five customers represented approximately 56% of the segment's net sales (Sprint Nextel; KDDI, a service provider in Japan; China Mobile; Verizon; and China Unicom). The loss of any of the segment's large customers, in particular these customers, could have a material adverse effect on the segment's business. Further, because contracts are long-term, the loss of a major customer would impact revenue and earnings over several quarters.


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    11 Sprint Nextel is our largest customer, representing 25% of the segment's net sales in 2005. On August 12, 2005, Sprint Corporation and Nextel Communications, Inc. completed their merger transaction (the ""Sprint Nextel Merger'') that was announced in December 2004. The combined company, Sprint Nextel, is the segment's largest customer and Motorola has been its sole supplier of iDEN handsets and core iDEN network infrastructure equipment for over ten years. Sprint Nextel uses Motorola's proprietary iDEN technology to support its nationwide wireless service business. Motorola is currently operating under supply agreements for iDEN handsets and infrastructure equipment that cover the period from January 1, 2005 through December 31, 2007. The segment did not experience any significant impact to its business in 2005 as a result of the Sprint Nextel Merger. Competition Networks experiences competition in worldwide markets from numerous competitors, ranging in size from some of the world's largest companies to small specialized firms. In the cellular infrastructure industry, Ericsson is the market leader, followed by Nokia and four vendors with similar market share positions, including Motorola, Siemens, Lucent and Nortel. Alcatel, Samsung and NEC are also significant competitors. We also experience price competition for both 2G and 3G systems from Chinese vendors, such as Huawei and ZTE. Competitive factors in the market for the segment's products include: technology offered; price; payment terms; availability of vendor financing; product and system performance; product features, quality, delivery, availability and warranty; the quality and availability of service; company image; relationship with key customers; and time-to-market. Price is a major area of competition and often impacts margins for initial system bids, particularly in emerging markets. Time-to-market has also been an important competitive factor, especially for new systems and technologies. Payment Terms The segment's contracts typically include implementation milestones, such as delivery, installation and system acceptance. Generally, these milestones can take anywhere from 30 to 180 days to complete. Customer payments are typically tied to the completion of these milestones. Once a milestone is reached, payment terms are generally 30 to 60 days. As required for competitive reasons, we may arrange or provide for extended payment terms or long- term financing. Regulatory Matters Radio frequencies are required to provide wireless services. The allocation of frequencies is regulated in the U.S. and other countries throughout the world, and limited spectrum space is allocated to wireless services. The growth of the wireless and personal communications industry may be affected if adequate frequencies are not allocated or, alternatively, if new technologies are not developed to better utilize the frequencies currently allocated for such use. Industry growth may also be affected by the cost of the new licenses required to use frequencies and any related frequency relocation costs. The U.S. leads the world in spectrum deregulation, allowing new wireless communications technologies to be developed and offered for sale. Examples include Wireless Local Area Network systems, such as WiFi, and Wide Area Network systems, such as Wi4. Other countries have also deregulated portions of the available spectrum to allow for new technologies, which can be offered without spectrum license costs. Deregulation may introduce new competition and new opportunities for Motorola and our customers. Backlog The segment's backlog was $2.0 billion at both December 31, 2005 and December 31, 2004. The 2005 order backlog is believed to be generally firm and 100% of that amount is expected to be recognized as revenue during 2006. The forward-looking estimate of the firmness of such orders is subject to future events that may cause the amount recognized to change. Intellectual Property Matters Patent protection is extremely important to the segment's operations. The segment has an extensive portfolio of patents relating to its products, systems, technologies and manufacturing processes. The segment licenses certain


  • Page 19

    12 of its patents to third parties and generates modest revenue from these licenses. Motorola is also licensed to use certain patents owned by others. Royalty and licensing fees vary from year to year and are subject to the terms of the agreements and sales volumes of the products subject to licenses. Reference is made to the material under the heading ""Other Information'' for information relating to patents and trademarks and research and development activities with respect to this segment. Inventory, Raw Materials, Right of Return and Seasonality The segment's practice is to carry reasonable amounts of inventory in order to meet customer delivery requirements in a manner consistent with industry standards. At the end of 2005, the segment had a slightly higher inventory balance as compared to the end of 2004, primarily as result of growth in its Wireline Networks and Embedded Communications Computing businesses. Availability of materials and components required by the segment is relatively dependable, but fluctuations in supply and market demand could cause selective shortages and affect results. We currently source certain materials and components from single vendors. Any material disruption from a single-source vendor may have a material adverse impact on our results of operations. Natural gas, electricity and, to a lesser extent, oil are primary sources of energy for the segment's operations, which are currently in generally adequate supply for the segment's operations. In addition, the cost to operate our facilities and freight costs are dependent on world oil prices. A substantial increase in worldwide oil prices could have a negative impact on our results of operations. Labor is generally available in reasonable proximity to the segment's manufacturing facilities. However, difficulties in obtaining any of these items could affect the segment's results. Generally the segment's contracts do not include a right of return other than for standard warranty provisions. For new product introductions, we may enter into milestone contracts wherein if we do not achieve the milestones, the product could be returned. The business does not have seasonal patterns for sales. Our Facilities/Manufacturing Our headquarters are located in Arlington Heights, Illinois. Major design centers include Arlington Heights and Schaumburg, Illinois; Chandler and Tempe, Arizona; Fort Worth, Texas; Tewksbury and Andover, Massachusetts; Cork, Ireland; Bangalore, India; and Swindon, U.K. We operate major manufacturing facilities in Schaumburg, Illinois; Fort Worth, Texas; Hangzhou and Tianjin, China; Swindon, U.K.; Munich, Germany and Nogales, Mexico. A majority of our manufacturing is conducted in China, with nearly 100% of printed circuit board assembly for the segment performed by third-party manufacturers in China. Connected Home Solutions Segment The Connected Home Solutions segment (the ""segment'') designs, manufactures and sells a wide variety of broadband products, including: (i) digital systems and set-top boxes for cable television, Internet Protocol (""IP'') video and broadcast networks, (ii) high speed data products, including cable modems and cable modem termination systems (""CMTS''), and IP-based telephony products, (iii) hybrid fiber coaxial network transmission systems used by cable television operators, (iv) digital satellite program distribution systems, (v) direct-to-home (""DTH'') satellite networks and private networks for business communications, and (vi) advanced video communication products. In 2005, the segment's net sales represented 8% of the Company's consolidated net sales. Principal Products and Services The segment is a leading provider of end-to-end networks used for the delivery of video, voice and data services over hybrid fiber coaxial networks. Within the home, the segment provides interactive digital set-top boxes and Internet gateways that provide access to entertainment and two-way communications services. Our in-home products support mobility of content between devices within the home, integrated access to broadcast, Internet and personal content, and allow access to wireline and wireless services using integrated devices within the home.


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    13 The segment's broadband networks include products used to transport programming by broadcasters and programmers, products used at the cable operator's and telephone carrier's headends (central office) and products used at the cable operator's outside transmission plant. These products include digital encoders, multiplexers, satellite receivers/transcoders, content encryption and access control systems, cable modem termination systems (""CMTS''), amplifiers, taps, passives and optoelectronics. Our interactive digital set-top boxes for the end customer's home enable advanced interactive entertainment and informational services, including video-on-demand (""VOD''), digital video recording (""DVR''), Internet access, e-mail, e-commerce, chat rooms, pay-per view, and decoding and processing of high-definition television (""HD''). Our interactive digital set-top boxes also deliver advanced interactive services focused on digital video broadcast- compliant (""DVB-compliant'') markets around the world. We also provide digital system control equipment, encoders, access control equipment and a wide range of digital satellite receivers. Our digital business (set-top boxes and video infrastructure equipment) accounted for approximately 65% of the segment's revenue in 2005 and is expected to account for a substantial portion of the segment's revenues for the foreseeable future. Our cable modems deliver high-speed Internet access to subscribers over cable networks. These products also include wireless networking devices with high-speed Internet access for a complete home, small office or small-to- medium enterprise communications system. Our products also include voice gateways and cable modems with embedded voice gateways to enable voice communications over IP using broadband networks. Our products are marketed primarily to cable television operators, satellite television programmers, telephone carriers and other communications providers worldwide and are sold primarily by our skilled sales personnel. We have also expanded our traditional distribution channels by selling directly to consumers in a variety of retail markets. Through retail, we market and sell primarily cable modems, cordless telephones and advanced digital set- top boxes. Our Industry Demand for our products depends primarily on: (i) capital spending by providers of broadband services for constructing, rebuilding or upgrading their communications systems, and (ii) the marketing of advanced communications services by those providers. The amount of spending by these providers, and therefore a majority of our sales and profitability, are affected by a variety of factors, including: (i) general economic conditions, (ii) the continuing trend of consolidation within the cable and telecommunications industries, (iii) the financial condition of cable television system operators and alternative communications providers, including their access to financing, (iv) the rate of digital penetration, (v) technological developments, (vi) standardization efforts that impact the deployment of new equipment, and (vii) new legislation and regulations affecting the equipment sold by the segment. In 2005, our customers increased their spending on our products, primarily due to the increase in digital video and data subscribers and the deployment of advanced video platforms by cable operators for HD/DVR applications. Our Strategy Our strategy is to be the global leader in broadband connected home solutions and services, enabling customers to be seamlessly informed, connected and entertained. We continue to focus on our strategy to innovate and enhance our end-to-end network portfolio, provide for convergence of services and applications across delivery platforms within the home and develop new services that leverage our platforms. We are focused on accelerating the rate of digital penetration by broadband operators in North America through the introduction of an enhanced suite of digital set-top boxes, including more cost-effective products designed to increase the number of set-top boxes per household, as well as higher-end products for advanced services, including supporting the growing HD and DVR markets. During 2005, we shipped the first digital set-top boxes capable of supporting integrated exchange of stored content among devices in a consumer's home. We also continue to focus on growing our business in regions outside of North America, including the development of digital video products compliant with technology required in these regions. During 2005, the segment launched digital video in Chile with VTR, provided interactive digital terrestrial receivers for use in Italy and provided end-to-end equipment to support the launch of the first digital cable system in Hungary. We have also expanded our relationship with Cablevision in Mexico, adding DVRs to their service portfolio.


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    14 The segment is capitalizing upon the introduction of video services by telecommunication operators to their subscribers (""Telco TV'' or ""IPTV'') with products that support delivery of video content using both copper- outside-plant and fiber-to-the-premises networks. During the year, the segment provided end-to-end equipment for the launch of Verizon's FiOS service and won a contract to supply advanced IP interactive set-top boxes to AT&T. We are focused on enhancing and expanding our voice and data offerings to offer end-to-end solutions for fixed-mobile convergence and next-generation converged IP based voice, data and video delivery. These solutions include: (i) stand-alone and integrated voice/data/WiFi gateways with support for handing off a mobile voice or data call to a WiFi access point and a carrier's VoIP network, and (ii) next-generation infrastructure products in the CMTS and fiber optic network markets which expand the bandwidth delivered to a home or business. Sales of our CMTS infrastructure products increased over 20% in 2005 as cable operators built out their networks to accommodate high-availability VoIP, higher speed data offerings and multimedia applications such as streaming video and music as well as interactive gaming. Our voice gateway business experienced significant growth in 2005 as cable television operators, as well as non-facilities based VoIP service providers, aggressively launched and expanded their services. We expect this trend to continue in 2006 as the rich capabilities and value of these services result in continued adoption by mainstream consumers. Customers The vast majority of our sales are in the U.S., where a small number of large cable television multiple system operators (""MSOs'') own a large portion of the cable systems and account for a significant portion of the total capital spending in the industry. We are dependent upon a small number of customers for a significant portion of our sales. Comcast Corporation accounted for approximately 31% of the segment's net sales in 2005. The loss of business in the future from Comcast or any of the other major MSOs could have a material adverse effect on the segment's business. Sales of video headend equipment and set-top boxes to telephone carriers accounted for approximately 5% of our revenue in 2005. The opportunity in this market segment is expected to continue to grow as carriers around the world expand to offer video services. Competition The businesses in which we operate are highly competitive. The rapid technological changes occurring in each of the markets in which we compete are expected to lead to the entry of many new competitors. We compete worldwide in the market for digital set-top boxes for broadband and satellite networks. Based on 2005 annual sales, we believe we are the leading provider of digital cable set-top boxes in North America. Our digital cable set-top boxes compete with products from a number of different companies, including: (i) those that develop and sell substitute products that are distributed by direct broadcast satellite (""DBS'') service providers through retail channels, (ii) those that develop, manufacture and sell products of their own design, and (iii) those that license technology from us or other competitors. In North America, our largest competitor is Scientific-Atlanta. Other competitors in North America include Cisco, ARRIS and C-COR. Outside of North America, where we have a smaller market position, we compete with many equipment suppliers, including several consumer electronics companies. Cisco, a major competitor to the segment's IP products, home gateways and systems, announced that it will acquire Scientific-Atlanta, our largest competitor in conventional hybrid fiber coaxial cable technology. This combination strengthens Cisco, enabling it to offer end-to-end solutions in both hybrid fiber coaxial cable and IP networks, and encompasses a broad set of customer relationships around the world. The traditional competitive environment in the North American cable market continues to change for several reasons. Based on our customers' requirements, we have begun and will continue to license certain of our technology to certain competitors. In 2005, we formed a joint venture with Comcast Corporation. This joint venture licenses certain of our technologies to competitors to build set-top boxes and elements of headend equipment. Comcast and other network operators can then purchase these products from these licensees. Historically, reception of digital television programming from the cable broadband network required a set-top box with security technology that was compatible with the network. This security technology has limited the availability of set-top boxes to those manufactured by a few cable network manufacturers, including Motorola. The FCC has enacted regulations requiring separation of security functionality from set-top boxes by July 1, 2007. To meet this requirement, we have developed security modules for sale to cable operators for use with our own and third-party set-top boxes. As a step towards this implementation, in 2002, the cable industry and consumer electronic manufacturers agreed to a uni-directional security interface that allows third-party devices to access


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    15 broadcast programming (not pay-per-view or VOD) with a security device. These devices became widely available in 2004 and to date have seen limited use. The limited use of the devices has not had a significant impact on our business. A full two-way security interface specification is in development, and compliant devices are likely to be available in late 2006. These changes are expected to increase competition and encourage the sale of set-top boxes to consumers in the retail market. Traditionally, cable service providers have leased the set-top box to their customers. These changes could adversely impact our competitive position and our sales and profitability. Most of our sales and profits arise from the sale of our set-top boxes. We also compete worldwide in the market for broadband data and voice products. We believe that we are the leading provider of cable modems worldwide, competing with a number of consumer electronic companies and various original design manufacturers worldwide. Competitive factors for our products and systems include: technology offered; product and system performance, features, quality, delivery and availability; and price. We believe that we enjoy a strong competitive position because of our large installed cable television equipment base, strong relationships with major communication system operators worldwide, technological leadership and new product development capabilities. Payment Terms Generally, our payment terms are consistent with the industry and range from 30 to 60 days. Extended payment terms are provided to customers from time to time on a case-by-case basis. Such extended terms are isolated in nature and historically have not related to a significant portion of our revenues. Regulatory Matters Many of our products are subject to regulation by the FCC or other communications regulatory agencies. In addition, our customers and their networks, into which our products are incorporated, are subject to government regulation. Government regulatory policies affecting either the willingness or the ability of cable operators and telephone carriers to offer certain services, or the terms on which the companies offer the services and conduct their business, may affect the segment's results. Regulatory actions also have impacted competition, as discussed above. Backlog The segment's backlog was $424 million at December 31, 2005, compared to $304 million at December 31, 2004. The increase in backlog and related orders primarily reflects increased orders from our customers for advanced set-top boxes. The 2005 order backlog is believed to be generally firm and 100% of that amount is expected to be recognized as revenue in 2006. The forward-looking estimates of the firmness of such orders is subject to future events, which may cause the amount recognized to change. Intellectual Property Matters We seek to build upon our core enabling technologies, such as digital compression, encryption and conditional access systems, in order to lead worldwide growth in the market for broadband communications networks. Our policy is to protect our proprietary position by, among other methods, filing U.S. and foreign patent applications to protect technology and improvements that we consider important to the development of our business. We also rely on our proprietary knowledge and ongoing technological innovation to develop and maintain our competitive position, and will periodically seek to include our proprietary technologies in certain patent pools that support the implementation of standards. We are a founder of MPEG LA, the patent licensing authority established to foster broad deployment of MPEG-2 compliant systems. We have also licensed our digital conditional access technology, DigiCipher» II, to other equipment suppliers and have formed joint ventures with Comcast Corporation for development and licensing of conditional access technology. We also enter into other license agreements, both as licensor and licensee, covering certain products and processes with various companies. These license agreements require the payment of certain royalties that are not expected to be material to the segment's financial results.


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    16 Inventory, Raw Materials, Right of Return and Seasonality Substantially all of our products are manufactured at our facilities in Taipei, Taiwan and Nogales, Mexico. Inventory levels are managed in line with existing business conditions. Availability of materials and components required by the segment is relatively dependable, but fluctuations in supply and market demand could cause selective shortages and affect results. We currently source certain materials and components from single vendors. Any material disruption from a single-source vendor may have a material adverse impact on our results of operations. Electricity is the primary source of energy required for our manufacturing operations, which is currently in generally adequate supply for the segments operations. In addition, the cost to operate our facilities and freight costs are dependent on world oil prices. A substantial increase in world-wide oil prices could have a negative impact on our results of operations. Labor is generally available in reasonable proximity to the segment's manufacturing facilities. However, difficulties in obtaining any of the aforementioned terms could affect the segments results. Generally, we do not permit customers to return products. We have not experienced seasonal buying patterns for our products recently. However, as our retail cable modem and digital set-top box sales increase, we may have increased sales during the holiday season at the end of each year. Our Facilities/Manufacturing Our headquarters are located in Horsham, Pennsylvania. We also have research and development and administrative offices in San Diego, San Jose and Sunnyvale, California; Lexington and Marlboro, Massachusetts; and Lawrenceville, Georgia. We have several sales offices throughout North America, Europe, Latin America and Asia, and we operate manufacturing facilities in Taipei, Taiwan and Nogales, Mexico. We also use contract manufacturers with plants in China for a portion of our cable modem/voice module production in order to enhance our ability to lower our costs and deliver products that meet consumer demand. Other Information 2005 Change in Organizational Structure. Effective on January 1, 2005, the Company reorganized its businesses and functions to align with the Company's seamless mobility strategy. The Company was organized into four main business groups, focused on mobile devices, government and enterprise, networks and the connected home. The Mobile Devices business is primarily comprised of the former Personal Communications segment and the Energy Systems group from the former Integrated Electronic Systems segment (""IESS''). The Government and Enterprise Mobility Solutions business is primarily comprised of the former Commercial, Government and Industrial Solutions segment and the Automotive Communications and Electronics Systems group from the former IESS. The Networks business is primarily comprised of the former Global Telecom Solutions segment, the Embedded Computing and Communications group from the former IESS, and the next-generation wireline networks business from the former Broadband Communications segment (""BCS''). The Connected Home Solutions business is primarily comprised of the former BCS, excluding the next-generation wireline networks business. In addition, the Company's key support functions, including supply-chain operations, information technology, finance, human resources, legal, strategy and business development, marketing, quality and technology have been architected centrally and distributed throughout the Company. Financial Information About Segments. The response to this section of Item 1 incorporates by reference Note 10, ""Information by Segment and Geographic Region,'' of Part II, Item 8: Financial Statements and Supplementary Data of this document. Customers. Motorola has several large customers, the loss of one or more of which could have a material adverse effect on the Company. Motorola's largest end customers (including sales through distributors) are Sprint Nextel, Cingular, China Mobile, Amπerica Movil π and T-Mobile. Motorola sold approximately 12% of its products and services to Sprint Nextel in 2005. Approximately 2% of Motorola's net sales in 2005 were to various branches and agencies, including the armed services, of the U.S. Government. All contracts with the U.S. Government are subject to cancellation at the convenience of the Government.


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    17 Government contractors, including Motorola, are routinely subjected to numerous audits and investigations, which may be either civil or criminal in nature. The consequences of these audits and investigations may include administrative action to suspend business dealings with the contractor and to exclude it from receiving new business. In addition, Motorola, like other contractors, reviews aspects of its government contracting operations, and, where appropriate, takes corrective actions and makes voluntary disclosures to the U.S. Government. These audits and investigations could adversely affect Motorola's ability to obtain new business from the U.S. Government. Backlog. Motorola's aggregate backlog position for all Motorola segments, as of the end of the last two fiscal years was approximately as follows: December 31, 2005ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $7.8 billion December 31, 2004ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $6.3 billion Except as previously discussed in this Item 1, the orders supporting the 2005 backlog amounts shown in the foregoing table are believed to be generally firm, and approximately 92% of the backlog on hand at December 31, 2005 is expected to be shipped or earned, with respect to contracts accounted for under the percentage of completion or completed contract accounting, during 2006. However, this is a forward-looking estimate of the amount expected to be shipped or earned, and future events may cause the percentage actually shipped or earned to change. Research and Development. Motorola's business segments participate in very competitive industries with constant changes in technology. Throughout its history, Motorola has relied, and continues to rely, primarily on its research and development (""R&D'') programs for the development of new products, and on its production engineering capabilities for the improvement of existing products. Technical data and product application ideas are exchanged among Motorola's business segments on a regular basis. Management believes, looking forward, that Motorola's commitment to R&D programs, both to improve existing products and services and to develop new products and services, together with its utilization of state-of-the-art technology, should allow each of its segments to remain competitive. R&D expenditures relating to new product development or product improvement were approximately $3.7 billion in 2005, compared to $3.4 billion in 2004 and $3.0 billion in 2003. R&D expenditures increased 8% in 2005 as compared to 2004, after increasing 15% in 2004 as compared to 2003. Motorola continues to believe that a strong commitment to research and development is required to drive long-term growth. Approximately 25,000 professional employees were engaged in such research activities during 2005. Patents and Trademarks. Motorola seeks to obtain patents and trademarks to protect our proprietary position whenever possible and practical. As of December 31, 2005, Motorola owned 8,557 utility and design patents in the U.S. and 12,801 patents in foreign countries. These foreign patents are mostly counterparts of Motorola's U.S. patents, but a number result from research conducted outside the U.S. and are originally filed in the country of origin. During 2005, Motorola was granted 548 U.S. utility and design patents. Many of the patents owned by Motorola are used in its operations or licensed for use by others, and Motorola is licensed to use certain patents owned by others. Royalty and licensing fees vary from year to year and are subject to the terms of the agreements and sales volumes of the products subject to licenses. Environmental Quality. Compliance with federal, state and local laws regulating the discharge of materials into the environment, or otherwise relating to the protection of the environment, has no material effect on capital expenditures, earnings or the competitive position of Motorola. Employees. At December 31, 2005, there were approximately 69,000 employees of Motorola and its subsidiaries, as compared to approximately 68,000 employees at December 31, 2004. Financial Information About Foreign and Domestic Operations and Export Sales. Domestic export sales to third parties were $2.1 billion, $2.7 billion and $1.9 billion for the years ended December 31, 2005, 2004 and 2003, respectively. Domestic export sales to affiliates and subsidiaries, which are eliminated in consolidation, were $2.6 billion, $1.8 billion and $1.8 billion for the years ended December 31, 2005, 2004 and 2003, respectively. The remainder of the response to this section of Item 1 incorporates by reference Note 9, ""Commitments and Contingencies'' and Note 10, ""Information by Segment and Geographic Region'' of Part II, Item 8: Financial Statements and Supplementary Data of this document, the ""Results of OperationsÌ2005 Compared to 2004'' and


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    18 ""Results of OperationsÌ2004 Compared to 2003'' sections of Part II, Item 7: Management's Discussion and Analysis of Financial Condition and Results of Operations of this document. Available Information We make available free of charge through our website, www.motorola.com/investor, our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, proxy statements, other reports filed under the Securities Exchange Act of 1934 (""Exchange Act'') and all amendments to those reports as soon as reasonably practicable after such material is electronically filed with the Securities and Exchange Commission (""SEC''). Our reports are also available free of charge on the SEC's website, www.sec.gov. Also available free of charge on our website are the following corporate governance documents: ‚ Motorola, Inc. Restated Certificate of Incorporation ‚ Motorola, Inc. Amended and Restated Bylaws ‚ Motorola, Inc. Board Governance Guidelines ‚ Motorola, Inc. Director Independence Guidelines ‚ Principles of Conduct for Members of the Motorola, Inc. Board of Directors ‚ Motorola Code of Business Conduct, which is applicable to all Motorola employees, including the principal executive officer, the principal financial officer and the controller (principal accounting officer) ‚ Audit and Legal Committee Charter ‚ Compensation and Leadership Committee Charter ‚ Governance and Nominating Committee Charter All of our reports and corporate governance documents may also be obtained without charge by contacting Investor Relations, Motorola, Inc., Corporate Offices, 1303 East Algonquin Road, Schaumburg, Illinois 60196, E-mail: investors@motorola.com, phone: 1-800-262-8509. Our Internet website and the information contained therein or incorporated therein are not intended to be incorporated into this Annual Report on Form 10-K.


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    19 Item 1A: Risk Factors We wish to caution the reader that the following important risk factors, and those risk factors described elsewhere in this report or our other Securities and Exchange Commission filings, could cause our actual results to differ materially from those stated in forward-looking statements contained in this document and elsewhere. The demand for our products depends in large part on the continued growth of the industries in which we participate. A market decline in any one of these industries could have an adverse effect on our business. In 2004 and 2005, the portions of the telecommunications industry in which we participate have returned to double digit growth. However, our business was very negatively impacted by the economic slowdown and the corresponding reduction in capital spending by the telecommunications industry from 2001 to 2003. The rate at which the portions of the telecommunications industry in which we participate continue to grow is critical to our ability to improve our overall financial performance. Our customers are located throughout the world and, as a result, we face risks that other companies that are not global may not face. Our customers are located throughout the world and more than half of our net sales are made to customers outside of the U.S. In addition, we have many manufacturing, administrative and sales facilities outside the U.S., the majority of our products are manufactured outside the U.S. and more than half of our employees are employed outside the U.S. As with all companies that have sizeable sales and operations outside the U.S., we are exposed to risks that could negatively impact sales or profitability, including but not limited to: (1) tariffs, trade barriers and trade disputes; (2) regulations related to customs and import/export matters; (3) longer payment cycles; (4) tax issues, such as tax law changes, variations in tax laws from country to country and as compared to the U.S., and difficulties in repatriating cash generated or held abroad in a tax-efficient manner; (5) currency fluctuations, particularly in the euro, Chinese renminbi and Brazilian real; (6) challenges in collecting accounts receivable; (7) cultural and language differences; (8) employment regulations and local labor conditions; (9) difficulties protecting IP in foreign countries; (10) instability in economic or political conditions, including inflation, recession and actual or anticipated military or political conflicts; (11) natural disasters, such as earthquakes, tsunamis and typhoons; (12) public health issues or outbreaks; and (13) the impact of each of the foregoing on our outsourcing and procurement arrangements. Many of our products that are manufactured outside of the U.S. are manufactured in Asia. In particular, we have sizeable operations in China, including manufacturing operations, and 8% of our net sales are made to customers in China. The legal system in China is still developing and is subject to change. Accordingly, our operations and orders for products in China could be adversely impacted by changes to or interpretation of Chinese law. Further, if manufacturing in the region is disrupted, our overall capacity could be significantly reduced and sales or profitability could be negatively impacted. If the quality of our products does not meet our customers' expectations, then our sales and operating earnings, and ultimately our reputation, could be adversely affected. Occasionally, some of the products we sell have quality issues resulting from the design or manufacture of the product, or from the software used in the product. Often these issues are identified prior to the shipment of the products and may cause delays in shipping products to customers, or even the cancellation of orders by customers. Sometimes, we discover quality issues in the products after they have been shipped to our distributors or end-user customers, requiring us to resolve such issues in a timely manner that is the least disruptive to our customers. Such pre-shipment and post-shipment quality issues can have legal and financial ramifications, including: delays in the recognition of revenue, loss of revenue or future orders, customer-imposed penalties on Motorola for failure to meet contractual shipment deadlines, increased costs associated with repairing or replacing products, and a negative impact on our goodwill and brand name reputation. In some cases, if the quality issue affects the product's safety or regulatory compliance, then such a ""defective'' product may need to be recalled. Depending on the nature of the defect and the number of products in the field, it can cause the Company to incur substantial recall costs, in addition to the costs associated with the potential loss


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    20 of future orders, and the damage to the Company's goodwill or brand/reputation. In addition, the Company may be required, under certain customer contracts, to pay damages for failed performance that might exceed the revenue that the Company receives from the contracts. Recalls involving regulatory agencies can also result in fines and additional costs. Finally, recalls can result in third-party litigation, including class action litigation by persons alleging common harm resulting from the purchase of the products. We operate in highly-competitive markets and our financial results will be affected if we are not able to compete effectively. The markets for our products are highly competitive with respect to, among other factors: pricing, product and service quality, and the time required to introduce new products and services. We are constantly exposed to the risk that our competitors may implement new technologies before we do, or may offer lower prices, additional products or services or other incentives that we cannot or will not offer. We can give no assurances that we will be able to compete successfully against existing or future competitors. The uncertainty of current economic and political conditions makes budgeting and forecasting difficult and may reduce demand for our products. Current conditions in the domestic and global economies are uncertain. The U.S. involvement in Iraq and other global conflicts, including in the Middle East, as well as public health issues, have created many economic and political uncertainties that have impacted the global economy. As a result, it is difficult to estimate the level of growth for the world economy as a whole. It is even more difficult to estimate growth in various parts of the world economy, including the markets in which we participate. Because all components of our budgeting and forecasting are dependent upon estimates of growth in the markets we serve and demand for our products, the prevailing economic uncertainties render estimates of future income and expenditures difficult. The future direction of the overall domestic and global economies will have a significant impact on our overall performance. The potential for future terrorist attacks, increased global conflicts and the escalation of existing conflicts and public health issues has created worldwide uncertainties that have negatively impacted, and may continue to negatively impact, demand for certain of our products. Our future operating results depend on our ability to purchase a sufficient amount of materials, parts and components to meet the demands of our customers. Our ability to meet customers' demands depends, in part, on our ability to obtain timely and adequate delivery of quality materials, parts and components from our suppliers. We have experienced shortages in the past that have adversely affected our operations. Although we work closely with our suppliers to avoid these types of shortages, there can be no assurances that we will not encounter these problems in the future. Furthermore, certain of our components are available only from a single source or limited sources. We may not be able to diversify sources in a timely manner. A reduction or interruption in supplies or a significant increase in the price of supplies could have a material adverse effect on our businesses. Our success depends in part on our timely introduction of new products and technologies and our results can be impacted by our significant investments in new products and technologies. The markets for our products are characterized by rapidly changing technologies, frequent new product introductions, short product life cycles and evolving industry standards. Our success depends, in substantial part, on the timely and successful introduction of new products and upgrades of current products to comply with emerging industry standards and to address competing technological and product developments carried out by our competitors. The research and development of new, technologically-advanced products is a complex and uncertain process requiring high levels of innovation, as well as the accurate anticipation of technological and market trends. We may focus our resources on technologies that do not become widely accepted and are not commercially viable. In addition, products may contain defects or errors that are detected only after deployment. If our products are not competitive or do not work properly, our business will suffer. Our results are subject to risks related to our significant investment in developing and introducing new products, such as: seamless mobility products, advanced digital wireless handsets; CDMA2000 1X, UMTS and other advanced technologies for wireless networks; products for transmission of telephony and high-speed data over


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    21 hybrid fiber coaxial cable systems; integrated digital radios; and integrated public safety systems. These risks include: (i) difficulties and delays in the development, production, testing and marketing of products; (ii) customer acceptance of products; (iii) the development of industry standards; (iv) the significant amount of resources we must devote to the development of new technology; and (v) the ability to differentiate our products and compete with other companies in the same markets. Our success, in part, will be affected by the ability of our wireless businesses to successfully compete in the ever-evolving markets in which we participate. We face intense competition in these markets from both established companies and new entrants. Product life cycles can be short and new products are expensive to develop and bring to market. Our success is dependent, in part, upon our ability to form successful strategic alliances. If these arrangements do not develop as expected, our business may be adversely impacted. We currently partner with industry leaders to meet customer product and service requirements and to develop innovative advances in design and technology. Some of our partnerships allow us to supplement internal manufacturing capacity and share the cost of developing next-generation technologies. Other partnerships allow us to offer more services and features to our customers. If such arrangements do not develop as expected, our business could be adversely impacted. Our business will be harmed if we are found to have infringed intellectual property rights of third parties, or if our intellectual property protection is inadequate to protect our proprietary rights. Because our products are comprised of complex technology, we are involved in litigation regarding patent and other intellectual property rights. Third parties have asserted, and in the future may assert, claims against us alleging that we have infringed their intellectual property rights. If we do not succeed in any such litigation, we could be required to expend significant resources to pay damages, develop non-infringing intellectual property or to obtain licenses to the intellectual property that is the subject of such litigation. However, we cannot be certain that any such licenses, if available at all, will be available to us on commercially reasonable terms. Also, defending these claims may be expensive and divert the time and efforts of our management and employees. Our patent and other intellectual property rights are important competitive tools and may generate income under license agreements. We regard our intellectual property rights as proprietary and attempt to protect them with patents, copyrights, trademarks, trade secret laws, confidentiality agreements and other methods. We also generally restrict access to and distribution of our proprietary information. Despite these precautions, it may be possible for a third party to obtain and use our proprietary information or develop similar technology independently. In addition, effective patent, copyright, trademark and trade secret protection may be unavailable or limited in certain foreign countries. Unauthorized use of our intellectual property rights by third parties and the cost of any litigation necessary to enforce our intellectual property rights could have an adverse impact on our business. Many of our components and products are manufactured by third parties and if third-party manufacturers lack sufficient quality control or if there are significant changes in the financial or business condition of such third- party manufacturers, it may have a material adverse effect on our business. We rely on third-party suppliers for many of the components used in our products and we rely on third-party manufacturers to manufacture many of our assemblies and finished products. If such third parties lack sufficient quality control or if there are significant changes in the financial or business condition of such third parties, it could have a material adverse effect on our business. We also have third-party arrangements for the design or manufacture of certain products, parts and components. If these third parties fail to deliver quality products, parts and components on time and at reasonable prices, we could have difficulties fulfilling our orders and our sales and profits could decline. There is no guarantee that design wins will become actual orders and sales. A ""design win'' occurs when a customer or prospective customer notifies us that our product has been selected to be integrated with the customer's product. There can be delays of several months or more between the design win and when a customer initiates actual orders. The design win may never become an actual order or sale.


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    22 Further, if the customer's plans change, we may commit significant resources to design wins that do not result in actual orders. We have taken, and continue to take, cost-reduction actions. Our ability to complete these actions and the impact of such actions on our business may be limited by a variety of factors. The cost reduction actions, in turn, may expose us to additional production risk and have an adverse effect on our sales and profitability. We have been reducing costs and simplifying our product portfolios in all of our businesses. We have discontinued product lines, exited businesses, consolidated manufacturing operations and reduced our employee population. The impact of these cost-reduction actions on our sales and profitability may be influenced by factors including, but not limited to: (1) our ability to successfully complete these ongoing efforts; (2) our ability to generate the level of cost savings we expect or that are necessary to enable us to effectively compete; (3) delays in implementation of anticipated workforce reductions in highly-regulated locations outside of the United States, particularly in Europe and Asia; (4) decreases in employee morale and the failure to meet operational targets due to the loss of employees, particularly sales employees; (5) our ability to retain or recruit key employees; (6) the appropriateness of the size of our manufacturing capacity, including capacity from third parties; and (7) the performance of other parties under contract manufacturing arrangements on which we rely for the manufacture of certain products, parts and components. An important cost-reduction action has been to reduce the number of our facilities, including manufacturing facilities. All of our businesses have exited certain facilities or consolidated facilities so that our products are manufactured in fewer facilities. While we have business continuity and risk management plans in place in case capacity is significantly reduced or eliminated at a given facility, the reduced number of alternative facilities could cause the period of any manufacturing disruptions to be longer. As a result, we could have difficulties fulfilling our orders and our sales and profits could decline. We may not continue to have access to the capital markets to obtain long-term and short-term financing on acceptable terms and conditions, particularly if our credit ratings are downgraded. From time to time we access the long-term and short-term capital markets to obtain financing. Although we believe that we can continue to access the capital markets in 2006 on acceptable terms and conditions, our access and the availability of acceptable terms and conditions are impacted by many factors, including: (i) our credit ratings, (ii) the liquidity of the overall capital markets, and (iii) the current state of the economy, including the telecommunications industry. There can be no assurances that we will continue to have access to the capital markets on terms acceptable to the Company. Our credit ratings have been upgraded by each of the 3 major credit rating agencies during the last year. However, if our rating by Moody's Investor Service (""Moody's'') were to decline two levels from the current rating, we would no longer be considered investment grade by Moody's. As a result, our financial flexibility would be reduced and our cost of borrowing would increase. Some of the factors that impact our credit ratings, including the overall economic health of the telecommunications industry, are outside of our control. There can be no assurances that our current credit ratings will continue. Our commercial paper is rated ""A-2/P-2/F-2.'' Given the smaller size of the market for commercial paper rated ""A-2/P-2/F-2'' and the number of large commercial paper issuers in this market, commercial paper or other short-term borrowings may be unavailable or of limited availability to participants in this market. Although we continue to issue commercial paper, there can be no assurances that we will continue to have access to the commercial paper markets on terms acceptable to the Company. We may not be able to borrow funds under our credit facility if we are not able to meet the conditions to borrowing in our facility. We view our existing three-year revolving domestic credit facility as a source of available liquidity. This facility contains various conditions, covenants and representations with which we must be in compliance in order to borrow funds. We have never borrowed under this facility. However, if we wish to borrow under this facility in the


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    23 future, there can be no assurance that we will be in compliance with these conditions, covenants and representations. We have deferred tax assets that we may not be able to use under certain circumstances. If the Company is unable to generate sufficient future taxable income in certain jurisdictions, or if there is a significant change in the actual effective tax rates or the time period within which the underlying temporary differences become taxable or deductible, the Company could be required to increase its valuation allowances against its deferred tax assets resulting in an increase in its effective tax rate and an adverse impact on future operating results. We may continue to make strategic acquisitions of other companies or businesses and these acquisitions introduce significant risks and uncertainties, including risks related to integrating the acquired businesses and achieving benefits from the acquisitions. In order to position ourselves to take advantage of growth opportunities, we have made, and may continue to make, strategic acquisitions that involve significant risks and uncertainties. These risks and uncertainties include: (1) the difficulty in integrating newly-acquired businesses and operations in an efficient and effective manner; (2) the challenges in achieving strategic objectives, cost savings and other benefits from acquisitions; (3) the risk that our markets do not evolve as anticipated and that the technologies acquired do not prove to be those needed to be successful in those markets; (4) the potential loss of key employees of the acquired businesses; (5) the risk of diverting the attention of senior management from our operations; (6) the risks of entering new markets in which we have limited experience; (7) risks associated with integrating financial reporting and internal control systems; (8) difficulties in expanding information technology systems and other business processes to accommodate the acquired businesses; and (9) future impairments of goodwill of an acquired business. Acquisition candidates in the industries in which we participate may carry higher relative valuations (based on their earnings) than we do. This is particularly evident in software and services businesses. Acquiring a business that has a higher valuation than Motorola may be dilutive to our earnings, especially when the acquired business has little or no revenue. In addition, we may not pursue opportunities that are highly dilutive to near-term earnings and have, in the past, foregone certain of these acquisitions. Key employees of acquired businesses may receive substantial value in connection with a transaction in the form of change-in-control agreements, acceleration of stock options and the lifting of restrictions on other equity- based compensation rights. To retain such employees and integrate the acquired business, we may offer additional, sometimes costly, retention incentives. As a supplier to the automotive industry, we face certain risks due to the nature of the automotive business. As a supplier of automotive electronics and telematics communication products, our sales of these products and our profitability could be negatively impacted by changes in the operations, products, business models, part- sourcing requirements, financial condition, market share or consumer financing and rebate programs of our automotive customers. In addition, demand for our automotive products is linked to consumer demand for automobiles, which may be adversely impacted by the continuing uncertain economic environment. The value of our investments in the securities of various companies fluctuates and it may be difficult for us to realize the value of these investments. We hold a portfolio of investments in various companies. Since the majority of these securities represent investments in technology companies, the fair market values of these securities are subject to significant price volatility. In addition, the realizable value of these securities is subject to market and other conditions. We also have invested in numerous privately-held companies, many of which can still be considered in startup or developmental stages. These investments are inherently risky as the market for the technologies or products they have under development are typically in the early stages and may never materialize. We could lose all or substantially all of our investments in these companies, and in some cases have.


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    24 It may be difficult for us to recruit and retain the types of highly-skilled employees that are necessary to remain competitive. Competition for key technical personnel in high-technology industries is intense. We believe that our future success depends in large part on our continued ability to hire, assimilate, retain and leverage the skills of qualified engineers and other highly-skilled personnel needed to compete and develop successful new products. We may not be as successful as our competitors at recruiting, assimilating, retaining and utilizing these highly-skilled personnel. The unfavorable outcome of litigation pending against or future litigation could materially impact the Company. Our financial results could be materially adversely impacted by unfavorable outcomes to any pending or future litigation. See ""Item 3 Ì Legal Proceedings.'' There can be no assurances as to the favorable outcome of any litigation. We are subject to a wide range of environmental, health and safety laws. Our operations and the products we manufacture and/or sell are subject to a wide range of global environmental, health and safety laws. Compliance with existing or future environmental, health and safety laws could subject us to future costs, liabilities, impact our production capabilities, constrict our ability to sell, expand or acquire facilities and generally impact our financial performance. Some of these laws relate to the use, disposal, clean up of, and exposure to hazardous substances. In the United States, laws often require parties to fund remedial studies or action regardless of fault. Motorola continues to incur disposal cost and has ongoing remediation obligations. Changes to U.S. environmental laws or our discovery of additional obligations under these laws could have a negative impact on Motorola. Over the last several years, the European Union (the ""EU'') countries have enacted environmental laws regulating electronic products. Our products are impacted by laws that mandate the recycling of waste in electronic products sold in the EU and that will limit or prohibit the use of certain substances in electronic products beginning July 1, 2006. Other countries outside of Europe are expected to adopt similar laws. We have incurred and expect to continue to incur additional expenses to comply with these laws. We may provide financing and financial guarantees to our customers, some of which may be for significant amounts. The competitive environment in which we operate may require us to provide long-term customer financing to a customer in order to win a contract. Customer financing arrangements may include all or a portion of the purchase price for our products and services, as well as working capital. In some circumstances, these loans can be very large. We may also assist customers in obtaining financing from banks and other sources and may also provide financial guarantees on behalf of our customers. Our success, particularly in our infrastructure businesses, may be dependent, in part, upon our ability to provide customer financing on competitive terms and on our customers' creditworthiness. We also provide revolving, short-term financing to certain customers and distributors that purchase our equipment. Our success may be dependent, in part, on our ability to provide this financing. Our financial results could be negatively impacted if our customers or distributors fail to repay this revolving, short-term debt and/or our sales to such customers or distributors could be reduced in the event of real or perceived issues about the credit quality of the customer or distributor. When we lend our customers money in connection with the sale of our equipment, we are at risk of not being repaid. While we have generally been able to place a portion of our customer financings with third-party lenders, a portion of these financings are supported directly by us. There can be higher risks of default associated with some of these financings, particularly when provided to start-up operations such as local network providers, customers in developing countries, or customers in specific financing-intensive areas of the industry (such as 3G wireless operators). Should customers fail to meet their obligations on new or existing loans, losses could be incurred and such losses could negatively impact our financial results.


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    25 Our large system contracts for infrastructure equipment and the resulting reliance on large customers may negatively impact our business. We are exposed to risks due to large system contracts for infrastructure equipment and the resulting reliance on large customers. These include: (1) the technological risks of such contracts, especially when the contracts involve new technology, and (2) financial risks under these contracts, including the estimates inherent in projecting costs associated with large contracts and the related impact on operating results. We are also facing increasing competition from traditional system integrators and the defense industry as system contracts become larger and more complicated. Political developments can impact the nature and timing of these large contracts. It is important that we are able to obtain many different types of insurance, and if we are not able to obtain insurance we are forced to retain the risk. The Company has many types of insurance coverage and also self-insures for some risks and obligations. Generally, costs and availability of insurance has improved recently since the disruption to the market after the events of September 11, 2001. However, there are still certain types or levels of insurance that remain unavailable. Natural disasters (hurricanes, windstorms, earthquakes and floods) and certain risks arising from securities claims and public liability are potential self-insured events that could negatively impact our financial performance. Government regulation of radio frequencies may limit the growth of the wireless communications industry or reduce barriers to entry for new competitors. Radio frequencies are required to provide wireless services. The allocation of frequencies is regulated in the U.S. and other countries throughout the world and limited spectrum space is allocated to wireless services. The growth of the wireless and personal communications industry may be affected if adequate frequencies are not allocated or, alternatively, if new technologies are not developed to better utilize the frequencies currently allocated for such use. Industry growth has been and may continue to be affected by the cost of new licenses required to use frequencies and any related frequency relocation costs. The U.S. leads the world in spectrum deregulation, allowing new wireless communications technologies to be developed and offered for sale. Examples include Wireless Local Area Network systems such as WiFi, and Wide Area Network systems such as WiMax. Other countries have also deregulated portions of the available spectrum to allow these and other technologies, which can be offered without spectrum license costs. Deregulation may introduce new competition and new opportunities for Motorola and our customers. Changes in government policies and laws or economic conditions may adversely affect our financial results. Our results may be affected by changes in trade, monetary and fiscal policies, laws and regulations, or other activities of U.S. and non-U.S. governments, agencies and similar organizations. Our results may also be affected by social and economic conditions, which impact our operations, including in emerging markets in Asia and Latin America and in markets subject to ongoing political hostilities and war, including the Middle East. In addition, there are currently few laws or regulations that apply directly to access to, or commerce on, the Internet. We could be adversely affected by any such regulation in any country where we operate. The adoption of such measures could decrease demand for our products and at the same time increase the cost of selling such products. Consolidations in both the cable and telecommunication industries may adversely impact our business. The cable and telecommunication industries have experienced consolidation, and this trend is expected to continue according to industry estimates. Industry consolidation could result in delays of purchases by the merged companies to equipment suppliers such as Motorola and our competitors. Because of continuing consolidation within the cable industry worldwide, a small number of operators own a majority of cable television systems and account for a significant portion of the capital spending made by cable television system operators. Net sales to the Connected Home Solutions segment's largest customer, Comcast, which merged with AT&T Broadband in 2002, represented approximately 31% of the Connected Home Solutions segment's total net sales in 2005.


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    26 Sprint Nextel is our largest customer, representing 12% of the Company's net sales in 2005. On August 12, 2005, Sprint Corporation and Nextel Communications, Inc. completed their merger transaction that was announced in December 2004. The combined company, Sprint Nextel, is the segment's largest customer and Motorola has been its sole supplier of iDEN» handsets and core iDEN network infrastructure equipment for over ten years. Fewer significant customers will increase our reliance on large customers and may negatively impact our bargaining position and profit margins. The loss of, or a lesser role with, a significant customer due to industry consolidation may negatively impact our business. Regulatory changes impacting our cable products may adversely impact our business. Currently, reception of digital television programming from the cable broadband network requires a set-top box with certain technology. This security technology has limited the availability of set-top boxes to those manufactured by a few cable network manufacturers, including Motorola. The FCC enacted regulations requiring separation of security functionality from set-top boxes to increase competition and encourage the sale of set-top boxes in the retail market. Traditionally, cable service providers sold or leased the set-top box to their customer. As the retail market develops for set-top boxes and televisions capable of accepting the security modules, sales of our set-top boxes may be negatively impacted. The FCC has mandated that digital tuners to enable access to cable networks be incorporated into most television sets by 2007. Such televisions can access certain cable programming without a digital set-top box. As a result, future sales of set-top boxes may be negatively impacted. We rely on complex information technology systems and networks to operate our business. Any significant system or network disruption could have a material adverse impact on our operations, sales and operating results. We rely on the efficient and uninterrupted operation of complex information technology systems and networks. All information technology systems are potentially vulnerable to damage or interruption from a variety of sources, including but not limited to computer viruses, security breach, energy blackouts, natural disasters, terrorism, war and telecommunication failures. There also may be system or network disruptions if new or upgraded business management systems are defective or are not installed properly. We have implemented various measures to manage our risks related to system and network disruptions, but a system failure or security breach could negatively impact our operations and financial results. In addition, we may incur additional costs to remedy the damages caused by these disruptions or security breaches. Our share price has been and may continue to be volatile. Our share price has been volatile due, in part, to generally volatile securities markets, and the volatility in the telecommunications and technology companies' securities markets in particular. Factors other than our financial results that may affect our share price include, but are not limited to, market expectations of our performance, capital spending plans of our customers, and the level of perceived growth in the industries in which we participate. We rely on third-party distributors and retailers to sell certain of our products. In addition to our own distribution force, we offer our products through a variety of third-party distributors and retailers. Certain of our distributors market products that compete with the Company's products. The loss, termination or failure of one or more of our distributors to effectively promote our products could affect the Company's ability to bring its products to market. Changes in the financial or business condition of these distributors and retailers could also subject the Company to losses. The level of returns on pension and retirement plan assets could affect our earnings in future periods. The funding obligations for our pension plans are impacted by the performance of the financial markets, particularly the equity markets, and interest rates. Funding obligations are determined under ERISA and are measured each year based on the value of assets and liabilities on a specific date. If the financial markets do not provide the long-term returns that are expected under the ERISA funding calculation, we could be required to make larger contributions. The equity markets can be, and recently have been, very volatile, and therefore our estimate of future contribution requirements can change dramatically in relatively short periods of time. Similarly, changes in interest rates can impact our contribution requirements. In a low interest rate environment, the likelihood of required contributions in the future increases.


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    27 Compliance with changing regulation of corporate governance and public disclosure may result in additional expenses. Compliance with changing laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act of 2002, new SEC regulations and changes to the New York Stock Exchange rules, has required us to expend significant resources and incur additional expenses and will continue to do so. We are committed to maintaining the highest standards of corporate governance and public disclosure. As a result, we will continue to invest necessary resources to comply with evolving laws, regulations and standards, and this investment may continue to result in increased general and administrative expenses and a diversion of management time and attention from revenue-generating activities. The outcome of currently ongoing and future examinations of our income tax returns by the IRS. We are subject to continued examination of our income tax returns by the Internal Revenue Service and other tax authorities. We regularly assess the likelihood of adverse outcomes resulting from these examinations to determine the adequacy of our provision for income taxes. There can be no assurance that the outcomes from these continuing examinations will not have an adverse effect on future operating results. Item 1B: Unresolved Staff Comments None. Item 2: Properties Motorola's principal executive offices are located at 1303 East Algonquin Road, Schaumburg, Illinois 60196. Motorola also operates manufacturing facilities and sales offices in other U.S. locations and in many other countries. (See ""Item 1: Business'' for information regarding the location of the principal manufacturing facilities for each of Motorola's business segments.) Motorola owns 49 facilities (manufacturing, sales, service and office), 28 of which are located in North America and 21 of which are located in other countries. Motorola leases 275 facilities, 91 of which are located in North America and 184 of which are located in other countries. As compared to 2004, the number of facilities owned or leased was reduced primarily because of the optimization of space and workplace mobility programs being utilized instead of adding sites and space. In addition, as part of Motorola's overall strategy to reduce operating costs and improve the financial performance of the corporation, a number of businesses and facilities have either been sold or are currently for sale. During 2005, facilities in Tianjin, China; Phoenix, AZ; Harvard, IL; Beijing, China; Elgin, IL and land parcels in Ft. Worth, TX; Tempe, AZ and Suwanee, GA were sold. Land parcels in Elgin, IL are currently up for sale. Motorola generally considers the productive capacity of the plants operated by each of its business segments to be adequate and sufficient for the requirements of each business group. The extent of utilization of such manufacturing facilities varies from plant to plant and from time to time during the year. A substantial portion of Motorola's products are manufactured in Asia, primarily China, either in our own facilities or in the facilities of others who manufacture and assemble products for Motorola. If manufacturing in the region was disrupted, Motorola's overall productive capacity could be significantly reduced. Item 3: Legal Proceedings Personal Injury Cases Cases relating to Wireless Telephone Usage Motorola has been the defendant in several cases arising out of its manufacture and sale of wireless telephones. On May 26, 2000, a purported nationwide class action suit Naquin, et al., v. Nokia Mobile Phones, et al was filed against Motorola and several other cellular phone manufacturers and carriers in the Civil District Court for the Parish of Orleans, State of Louisiana. The case alleges that the failure to incorporate a remote headset into cellular phones rendered the phones defective by exposing users to biological injury and health risks. In the Second Supplemental and Amending Class Action Complaint, plaintiffs seek compensatory damages and injunctive relief. Similar state class action suits were filed on April 19, 2001, in the Circuit Court for Baltimore City, Maryland,


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    28 Pinney and Colonell v. Nokia, Inc., et al. and in the Pennsylvania Court of Common Pleas, Philadelphia County, Farina v. Nokia, Inc., et al.; on April 20, 2001, in the Supreme Court of the State of New York, County of Bronx, Gilliam et al., v. Nokia, Inc., et al.; and on June 8, 2001, in the Superior Court of Fulton County, State of Georgia, Gimpelson v. Nokia Inc, et. al. During 2001, after removal to federal court, the Judicial Panel on Multidistrict Litigation (""MDL Panel'') transferred these five cases to the United States District Court for the District of Maryland (the ""MDL Court'') for coordinated or consolidated pretrial proceedings in the matter called In re Wireless Telephone Radio Frequency Emissions Products Liability Litigation (the ""MDL Proceeding''). In 2005, as a result of a decision of the United States Court of Appeals for the Fourth Circuit, the Pinney, Gilliam, Farina and Gimpelson cases were remanded to the state courts from which they were removed (Maryland, New York, Pennsylvania, and Georgia, respectively). The Fourth Circuit decision also reversed the MDL Court's dismissal of the Naquin case on preemption grounds. Naquin was remanded to the MDL Court for further proceedings. On December 23, 2005, and again on February 9, 2006, plaintiff filed amended complaints in Farina. Defendants filed preliminary objections to the amended complaints. On January 31, 2006, plaintiffs filed a second amended complaint in Pinney. Both amended complaints seek compensatory and punitive damages and injunctive relief. Farina also seeks declaratory relief and treble and statutory damages. For the first time plaintiffs in both Farina and Pinney added allegations that cellular telephones sold without headsets are defective because they present a safety risk when used while driving. On February 17, 2006, a newly added defendant to the Farina and Pinney cases removed the cases to federal court. Motorola asserted additional grounds for the Pinney removal in papers filed on February 22, 2006. On January 30, 2006, plaintiff dismissed Gimpelson without prejudice. On February 15, 2006, the MDL Court issued a suggestion to the MDL Panel to transfer Naquin from the MDL Court to the federal court in Louisiana. On February 22, 2006, defendants filed a motion to reconsider that suggestion based on the removal of Farina and Pinney to the federal court. During 2001 and 2002, several additional cases were filed alleging that use of a cellular phone caused a malignant brain tumor: Murray v. Motorola, Inc., et al., filed November 15, 2001, in the Superior Court of the District of Columbia; Agro et. al., v. Motorola, Inc., et al., filed February 26, 2002, in the Superior Court of the District of Columbia; Cochran et. al., v. Audiovox Corporation, et al., filed February 26, 2002, in the Superior Court of the District of Columbia and Schofield et. al., v. Matsushita Electric Corporation of America, et al., filed February 26, 2002, in the Superior Court of the District of Columbia. Each complaint seeks compensatory damages in excess of $25 million, consequential damages in excess of $25 million and punitive and/or exemplary damages in excess of $100 million. These cases were removed to federal court and transferred to the MDL Court. On July 19, 2004, the MDL Court found that there was no federal court jurisdiction over Murray, Agro, Cochran and Schofield and remanded those cases to the Superior Court for the District of Columbia. On November 30, 2004, defendants moved to dismiss the Murray, Agro, Cochran and Schofield complaints. That motion remains pending before the Superior Court for the District of Columbia. Brower v. Motorola, Inc., et al., filed April 19, 2001, in the Superior Court of the State of California, County of San Diego, also seeks relief on behalf of an individual who had brain cancer. A first amended complaint was filed in Brower to add class allegations that defendants engaged in deceptive and misleading actions by falsely stating that cellular phones are safe and by failing to disclose studies that allegedly show cellular phones can cause harm. Brower seeks injunctive relief, restitution, compensatory and punitive damages and disgorgement of profits. On September 9, 2002, Dahlgren v. Motorola, Inc., et al., was filed in the D.C. Superior Court containing class claims similar to Brower. Dahlgren seeks injunctive and equitable relief, actual damages, treble or statutory damages, punitive damages and a constructive trust. These two cases were also removed to federal court and transferred to the MDL Court. On June 10, 2005, the Dahlgren case was remanded to the Superior Court for the District of Columbia. On December 9, 2005, plaintiff filed an amended complaint in Dahlgren. Defendants moved to dismiss Dahlgren on February 3, 2006. On February 15, 2006, the MDL Court remanded Brower to California state court. Case relating to Two-Way Radio Usage On January 23, 2004, Motorola was added as a co-defendant with New York City in Virgilio et al. v. Motorola et al., filed in the United States District Court for the Southern District of New York. Plaintiffs allege that twelve firefighters died because the Motorola two-way radios they were using on September 11, 2001 were defective and did not receive evacuation orders because the City of New York and Motorola committed wrongful acts in connection with a bid process that was designed to provide new radios to the New York City Fire


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    29 Department. Plaintiffs seek compensatory and punitive damages against Motorola in excess of $5 billion. On March 10, 2004, the court, to which all September 11 litigation has been assigned, granted Motorola's and the other defendant's motion to dismiss the complaint on the grounds that all of the Virgilio plaintiffs had filed claims with the September 11th Victims' Compensation Fund (the ""Fund''), that the statutory scheme clearly required injured parties to elect between the remedy provided by this Fund and the remedy of traditional litigation and that plaintiffs, by pursuing the Fund, had chosen not to pursue litigation. Subsequent appeals of the issue and petitions to the United States Court of Appeals for the Second Circuit have been denied and the decision of the lower court dismissing the case was affirmed. On October 13, 2005, plaintiffs filed a petition for writ of certiorari with the United States Supreme Court. The Supreme Court denied the petition on January 17, 2006, terminating all avenues of appeal. Iridium-Related Cases Class Action Securities Lawsuits Motorola has been named as one of several defendants in putative class action securities lawsuits arising out of alleged misrepresentations or omissions regarding the Iridium satellite communications business, which on March 15, 2001, were consolidated in the District of Columbia under Freeland v. Iridium World Communications, Inc., et al., originally filed on April 22, 1999. Bankruptcy Court Lawsuit Motorola was sued by the Official Committee of the Unsecured Creditors of Iridium in the Bankruptcy Court for the Southern District of New York on July 19, 2001. In re Iridium Operating LLC, et al. v. Motorola asserts claims for breach of contract, warranty, fiduciary duty, and fraudulent transfer and preferences, and seeks in excess of $4 billion in damages. Trial has been scheduled for August 7, 2006. On March 30, 2001, the United States Bankruptcy Court for the Southern District of New York presiding over the Iridium bankruptcy proceeding approved a settlement between the unsecured creditors of the Iridium Debtors and the Iridium Debtors' pre-petition secured lenders. The settlement agreement creates and provides for the funding of a litigation vehicle for the purpose of pursuing litigation against Motorola. Motorola appealed the approval of the settlement to the United States District Court for the Southern District of New York. On April 7, 2005, the District Court entered an order denying Motorola's appeal and affirming the settlement. On May 4, 2005, Motorola filed a notice of appeal to the United States Court of Appeals for the Second Circuit. The appeal is pending. Iridium India Lawsuits Motorola and certain of its current and former officers and directors were named as defendants in a private criminal complaint filed by Iridium India Telecom Ltd. (""Iridium India'') in October 2001 in the Court of the Extra Judicial Magistrate, First Class, Khadki, Pune, India. The Iridium India Telecom Ltd. v. Motorola, Inc. et al. complaint alleges that the defendants conspired to, and did, commit the criminal offense of ""cheating'' by fraudulently inducing Iridium India to purchase gateway equipment from Motorola, to acquire Iridium stock, and to invest in developing a market for Iridium services in India. Under the Indian penal code, ""cheating'' is punishable by imprisonment for up to 7 years and a fine of any amount. The court may also require defendants to compensate the victim for its losses, which the complaint estimates at about $100 million. In August 2003, the Bombay High Court granted Motorola's petition to dismiss the criminal action against Motorola and the individual defendants. Iridium India has petitioned the Indian Supreme Court to exercise its discretion to review that dismissal, and that petition is pending. In September 2002, Iridium India also filed a civil suit in the Bombay High Court against Motorola and Iridium. The suit alleges fraud, intentional misrepresentation and negligent misrepresentation by Motorola and Iridium in inducing Iridium India to purchase gateway equipment from Motorola, to acquire Iridium stock, and to invest in developing a market for Iridium services in India. Iridium India claims in excess of $200 million in damages and interest. Following extensive proceedings in the trial court and on appeal related to Iridium India's motion for interim relief, Motorola has deposited approximately $44 million in a specially designated account in India, and the Indian Supreme Court has accepted for a full hearing at a later date Motorola's appeal regarding interim relief.


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    30 Shareholder Derivative Case M&C Partners III v. Galvin, et al., filed January 10, 2002, in the Circuit Court of Cook County, Illinois, is a shareholder derivative action against fifteen current and former members of the Motorola Board of Directors and Motorola as a nominal defendant. The lawsuit alleges that the Motorola directors breached their fiduciary duty to the Company and/or committed gross mismanagement of Motorola's business and assets by allowing Motorola to engage in improper practices with respect to Iridium. Following the dismissal without prejudice of prior versions of the complaint, in January 2006, plaintiff filed a motion for leave to file a Third Amended Complaint, which remains pending. In May 2004, plaintiff served a demand on the Motorola Board of Directors to investigate the alleged wrongful conduct. In July 2004, Motorola's Board appointed an investigatory committee to evaluate the plaintiff's demand. On July 26, 2005, Motorola's Board, acting on an extensive report from and recommendations made by the investigatory committee, rejected plaintiff's demand. An unfavorable outcome in one or more of the Iridium-related cases still pending could have a material adverse effect on Motorola's consolidated financial position, liquidity or results of operations. Telsim-Related Cases In April 2001, Telsim Mobil Telekomunikasyon Hizmetleri A.S. (""Telsim''), a wireless telephone operator in Turkey, defaulted on the payment of approximately $2 billion of loans owed to Motorola and its subsidiaries (the ""Telsim Loans''). Motorola fully reserved the carrying value of the Telsim Loans in the second quarter of 2002. The Uzan family formerly controlled Telsim. Telsim remains under the control of the Turkish government, pending the closing of the sale of Telsim described below. Motorola is involved in several matters related to Telsim. October 2005 Settlement On October 28, 2005, Motorola signed an agreement resolving its disputes regarding the Telsim Loans with Telsim and the Government of Turkey (the ""Telsim Dispute Agreement''). The parties to the Telsim Dispute Agreement are: Motorola, Inc., Motorola Credit Corporation, Motorola Limited, Motorola Komunikasyon Ticaret ve Servis Limited Sirketi, Telsim, Rumeli Telefon Sistemleri A.S. and Bayindirbank A.S. The Government of Turkey and the Turkish Savings and Deposit Insurance Fund (""TMSF'') are third-party beneficiaries of the Telsim Dispute Agreement. As part of the Telsim Dispute Agreement, on October 28, 2005, Motorola received a cash payment of $500 million. On December 13, 2005, Vodafone agreed to purchase Telsim for $4.55 billion, pursuant to a sales process organized by the TMSF. This purchase has not yet been completed. Pursuant to the Telsim Dispute Agreement, Motorola has the right to receive 20% of the sale proceeds above $2.5 billion, in addition to the cash payment of $500 million it received in 2005, once this transaction is completed. Although there can be no assurances as to when or if the sale will close, the Company currently expects to receive $410 million in the second quarter of 2006. As part of the Telsim Dispute Agreement, and subject to certain conditions, Motorola has agreed that it will not pursue collection efforts against the three corporate defendants under TMSF control (Unikom Iletisim Hizmetleri Pazarlama A.S., Standart Pazarlama A.S., and Standart Telekomunikasyon Bilgisayar Hizmetleri A.S.) (the ""Corporate Defendants''), that are subject to its final judgment in the U.S. courts related to the matter. The Telsim Dispute Agreement permits Motorola to continue its efforts (except in Turkey and three other countries, which restriction is subject to certain conditions) to enforce the U.S. Judgment described below against the Uzan family. In addition, pursuant to the Telsim Dispute Agreement, Telsim and its related companies have dismissed all litigation, including arbitrations, pending against Motorola. U.S. Judgment The Company continues to realize collections on its judgment of $2.13 billion (the ""U.S. Judgment'') for compensatory damages rendered by the United States District Court for the Southern District of New York (the ""District Court'') against the Uzans on July 31, 2003 and affirmed by the U.S. Court of Appeals for the Second Circuit (the ""Second Circuit'') in 2004 and in connection with foreign proceedings against the Uzan family. However, the Company believes that the ongoing litigation, collection and/or settlement processes against the Uzan family will be very lengthy in light of the Uzans' continued resistance to satisfy the judgment against them and their decision to violate various courts' orders, including orders holding them in contempt of court. Following a remand


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    31 from the Second Circuit of the July 31, 2003 $2.13 billion punitive damages award by the District Court, on February 8, 2006, the District Court awarded a judgment in favor of Motorola for $1 billion in punitive damages against the Uzan family and their co-conspirator, Antonio Luna Bettancourt. Class Action Securities Lawsuits A purported class action lawsuit, Barry Family LP v. Carl F. Koenemann, was filed against the former chief financial officer of Motorola on December 24, 2002 in the United States District Court for the Southern District of New York, alleging breach of fiduciary duty and violations of Section 10(b) of the Securities Exchange Act of 1934 and SEC Rule 10b-5. It has been consolidated before the United States District Court for the Northern District of Illinois (the ""Illinois District Court'') with 18 additional putative class action complaints which were filed in various federal courts against the Company, its former chief financial officer and various other individuals, alleging that the price of Motorola's stock was artificially inflated by a failure to disclose vendor financing to Telsim Mobil Telekomunikasyon Hizmetleri A.S. (Telsim), in connection with the sale of telecommunications equipment by Motorola as well as other related aspects of Motorola's dealings with Telsim. In each of the complaints, plaintiffs proposed a class period of February 3, 2000 through May 14, 2001, and sought an unspecified amount of damages. On August 25, 2004, the Illinois District Court issued its decision on Motorola's motion to dismiss, granting the motion in part and denying it in part. The court dismissed without prejudice the fraud claims against the individual defendants and denied the motion to dismiss as to Motorola. The plaintiffs chose not to file an amended complaint; therefore, the fraud claims against the individual defendants are dismissed. The court, however, declined to dismiss the plaintiffs' claims that the individual defendants were ""controlling persons of Motorola.'' During 2005, the Court certified the case as a class action. No trial date is scheduled in the case at present. A purported class action, Howell v. Motorola, Inc., et al., was filed against Motorola and various of its officers and employees in the Illinois District Court on July 21, 2003, alleging breach of fiduciary duty and violations of the Employment Retirement Income Security Act (""ERISA''). The complaint alleged that the defendants had improperly permitted participants in Motorola's 401(k) Profit Sharing Plan (the ""Plan'') to purchase or hold shares of common stock of Motorola because the price of Motorola's stock was artificially inflated by a failure to disclose vendor financing to Telsim in connection with the sale of telecommunications equipment by Motorola. The plaintiff sought to represent a class of participants in the Plan for whose individual accounts the Plan purchased or held shares of common stock of Motorola from ""May 16, 2000 to the present'', and sought an unspecified amount of damages. On October 3, 2003, plaintiff filed an amended complaint asserting three claims for breach of fiduciary duties under ERISA against 24 defendants grouped into five categories and seeking an unspecified amount of damages. On September 23, 2004, the Illinois District Court dismissed the plan committee defendants from the case, without prejudice. On October 15, 2004, plaintiff filed a second amended complaint (the ""Howell Complaint'') and a motion for class certification. On December 3, 2004, defendants filed a motion for summary judgment seeking to dismiss the Howell Complaint and a corresponding motion to deny class certification. On September 30, 2005, the Illinois District Court granted defendants' motion and dismissed the Howell Complaint. Plaintiff filed an appeal to the dismissal on October 27, 2005. In addition, on October 19, 2005, plaintiff's counsel filed a motion seeking to add a new lead plaintiff and assert the same claims set forth in the Howell Complaint. Securities and Exchange Commission Investigation Motorola is involved in an ongoing investigation by the Securities and Exchange Commission regarding Telsim matters, which remains outstanding. Charter Communications Class Action Securities Litigation On August 5, 2002, Stoneridge Investment Partners LLC filed a purported class action in the United States District Court for the Eastern District of Missouri against Charter Communications, Inc. (""Charter'') and certain of its officers, alleging violations of Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder relating to Charter securities. This complaint did not name Motorola as a defendant, but asserted that Charter and the other named defendants had violated the securities laws in connection with, inter alia, a transaction with Motorola. On August 5, 2003, the plaintiff amended its complaint to add Motorola, Inc. as a defendant. As to Motorola, the amended complaint alleges a claim under Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5(a)-(c) promulgated thereunder relating to Charter securities and seeks an award of


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    32 compensatory damages. On October 12, 2004, the court granted Motorola's motion to dismiss, holding that there is no civil liability under the federal securities laws for aiding and abetting. On October 26, 2004, the plaintiff filed a motion for the reconsideration of the court's decision. On December 20, 2004, the court issued its ruling denying plaintiff's motion for reconsideration of its earlier decision to dismiss the complaint against Motorola. The court issued a final judgment dismissing Motorola from the case on February 15, 2005. Plaintiff appealed to the United States Court of Appeals for the Eighth Circuit. An oral argument was held on that appeal on December 12, 2005. In re Adelphia Communications Corp. Securities and Derivative Litigation On December 22, 2003, Motorola was named as a defendant in two cases relating to the In re Adelphia Communications Corp. Securities and Derivative Litigation (the ""Adelphia MDL''). The Adelphia MDL consists of at least fourteen individual cases and one purported class action that were filed in or have been transferred to the United States District Court for the Southern District of New York. First, Motorola was named as a defendant in the Second Amended Complaint in the individual case of W.R. Huff Asset Management Co. L.L.C. v. Deloitte & Touche LLP, et al. (the ""Huff Complaint'') This case was originally filed by W.R. Huff Asset Management Co. L.L.C. on June 7, 2002, in the United States District Court for the Western District of New York and was subsequently transferred to the Southern District of New York as related to the Adelphia MDL. Several other individual and corporate defendants are also named in the amended complaint along with Motorola. As to Motorola, the complaint alleges a claim arising under Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder relating to Adelphia securities, and seeks recovery of the consideration paid by plaintiff for Adelphia debt securities, compensatory damages, costs and expenses of litigation and other relief. Motorola filed a motion to dismiss this complaint on March 8, 2004 which is awaiting decision. Also on December 22, 2003, Motorola was named as a defendant in Stocke v. John J. Rigas, et al. This case was originally filed in Pennsylvania and was subsequently transferred to the Southern District of New York as related to the Adelphia MDL. Several other individual and corporate defendants are also named in the amended complaint along with Motorola. As to Motorola, the complaint generally makes the same allegations as the Huff Complaint and a state law claim of aiding and abetting fraud relating to Adelphia securities. The complaint seeks return of the consideration paid by plaintiff for Adelphia securities, punitive damages and other relief. Motorola filed a motion to dismiss this complaint on April 12, 2004 which is awaiting decision. On July 23, 2004, Motorola was named as a defendant in Argent Classic Convertible Arbitrage Fund L.P., et al. v. Scientific-Atlanta, Inc., et al. (the ""Argent Complaint''). The Argent Complaint was filed against Scientific Atlanta and Motorola in the Southern District of New York. The Argent Complaint generally makes the same allegations as the other previously-disclosed cases relating to the In re Adelphia Communications Corp. Securities and Derivative Litigation that have been transferred to the Southern District of New York. The complaint seeks compensatory damages and other relief. On October 12, 2004, Motorola filed a motion to dismiss the Argent Complaint which is awaiting decision. On September 14, 2004, Motorola was named in a complaint filed in state court in Los Angeles, California, naming Motorola and Scientific-Atlanta and certain officers of Scientific-Atlanta, Los Angeles County Employees Retirement Association et al. v. Motorola, Inc., et al. The complaint raises claims under California law for aiding and abetting fraud and conspiracy to defraud and generally makes the same allegations as the other previously- disclosed cases relating to the In re Adelphia Communications Corp. Securities and Derivative Litigation that have been transferred to the Southern District of New York. There are no new substantive allegations. The complaint seeks compensatory damages, opportunity-cost damages, punitive and other exemplary damages and other relief. On October 8, 2004, Motorola filed a motion to remove the California state court case to federal court in California. On December 1, 2004, the Multi-District Litigation Panel issued a conditional transfer order transferring the case to federal court in New York. Plaintiffs did not object to the conditional transfer order, and the order transferring the case to New York is now final. On September 19, 2005, Motorola filed a motion to dismiss the complaint in this action which is awaiting decision. On October 25, 2004, Motorola was named in a complaint filed in state court in Fulton County, Georgia, naming Motorola and Scientific-Atlanta and certain officers of Scientific-Atlanta, AIG DKR SoundShore Holdings, Ltd., et al. v. Scientific-Atlanta Inc., et al. The complaint raises claims under Georgia law of conspiracy to defraud and generally makes the same allegations as the other previously disclosed cases relating to the In re Adelphia Communications Corp. Securities and Derivative Litigation that have already been filed and transferred to the Southern District of New York. The complaint seeks damages and statutory compensation, punitive damages and other relief. On November 22, 2004, Motorola filed a petition to remove the state court case to federal court in


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    33 Georgia and a notice with the Multi-District Litigation requesting the case be transferred to New York. On January 5, 2005, the Multi-District Litigation issued a conditional transfer order, transferring the case to federal court in New York. On April 18, 2005, the Multi-District Litigation Panel issued a final order transferring the case to New York and that transfer is final. On September 19, 2005, Motorola filed a motion to dismiss the complaint in this action which is awaiting decision. Motorola is a defendant in various other suits, claims and investigations that arise in the normal course of business. In the opinion of management, and other than discussed above with respect to the Iridium cases, the ultimate disposition of the Company's pending legal proceedings will not have a material adverse effect on the consolidated financial position, liquidity or results of operations.


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    34 Item 4: Submission of Matters to a Vote of Security Holders Not applicable. Executive Officers of the Registrant Following are the persons who were the executive officers of Motorola as of February 28, 2006, their ages as of January 1, 2006, their current titles and positions they have held during the last five years: Edward J. Zander; age 58; Chairman and Chief Executive Officer since January 2004; Managing Director of Silver Lake Partners from July 2003 to December 2003; President and COO of Sun Microsystems, Inc. from January 1998 until June 2002. Gregory Q. Brown; age 45; Executive Vice President, President, Government and Enterprise Mobility Solutions since January 2005; Executive Vice President and President, Commercial, Government and Industrial Solutions Sector from January 2003 to January 2005; Chairman of the Board and Chief Executive Officer of Micromuse, Inc. from February 1999 to December 2002. David W. Devonshire; age 60; Executive Vice President, Chief Financial Officer since April 2002; Executive Vice President and Chief Financial Officer of Ingersoll-Rand Company from January 2000 to January 2002. Ruth A. Fattori; age 53; Executive Vice President, Human Resources since November 2004; Senior Vice President, JP Morgan Chase & Co., from April 2003 to November 2004; Executive Vice President, Process and Productivity, Conseco, Inc. from January 2001 to December 2002; Senior Vice President, Human Resources, Siemens Corporation from October 1999 to January 2001. Ronald G. Garriques; age 41; Executive Vice President, President, Mobile Devices since January 2005; Executive Vice President and President, Personal Communications Sector (""PCS'') from September 2004 to January 2005; Senior Vice President and General Manager, Europe, Middle East and Africa, PCS from September 2002 to September 2004; Senior Vice President and General Manager, Worldwide Product Line Management, PCS from February 2001 to September 2002. A. Peter Lawson; age 59; Executive Vice President, General Counsel and Secretary since May 1998. Daniel M. Moloney; age 46; Executive Vice President, President, Connected Home Solutions since January 2005; Executive Vice President and President, Broadband Communications Sector (""BCS'') from June 2002 to January 2005; Senior Vice President and General Manager, IP Systems Group, BCS from February 2000 to June 2002. Adrian R. Nemcek; age 58; Executive Vice President, President, Networks since January 2005; Executive Vice President and President, Global Telecom Solutions Sector (""GTSS'') from August 2002 to January 2005; Senior Vice President and President, GTSS from September 2001 to August 2002; Senior Vice President and General Manager, Office of Strategy, GTSS from August 2000 to September 2001. Richard N. Nottenburg; age 51; Executive Vice President, Chief Strategy Officer since March 2005; Senior Vice President and Chief Strategy Officer from July 2004 to March 2005; Strategic Advisor to Motorola, Inc. February 2004 to July 2004; Vice President and General Manager of Vitesse Semiconductor Corporation from August 2003 to January 2004; Chairman of the Board, President and Chief Executive Officer of Multilink from January 1995 to August 2003. Stuart C. Reed; age 44; Executive Vice President, Chief Supply Chain Officer since February 2006; Senior Vice President, Chief Supply Chain Officer from April 2005 to February 2006; Vice President, Worldwide Manufacturing and Engineering, Integrated Supply Chain, IBM Corporation (""IBM'') from January 2005 to April 2005; Vice President, Systems, Storage and Software Products, IBM from August 2004 to January 2005; Vice President, Systems and Storage, Worldwide Manufacturing Operations, IBM from January 2003 to August 2004; Vice President, Strategy, Process and Systems, IBM from January 2002 to January 2003; Vice President, Integrated Supply Chain, IBM from June 1999 to January 2002.


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    35 Padmasree Warrior; age 45; Executive Vice President, Chief Technology Officer since March 2005; Senior Vice President and Chief Technology Officer from January 2003 to March 2005; Corporate Vice President and General Manager, Energy Systems Group, Integrated Electronic Systems Sector from April 2002 to January 2003; Corporate Vice President and General Manager, Thoughtbeam, Inc., a wholly-owned subsidiary of Motorola, Inc., from October 2001 to April 2002; Corporate Vice President, Chief Technology Officer and Director, DigitalDNA Laboratories, Semiconductor Products Sector from December 2000 to October 2001. The above executive officers will serve as executive officers of Motorola until the regular meeting of the Board of Directors in May 2006 or until their respective successors shall have been elected. There is no family relationship between any of the executive officers listed above.


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    36 PART II Item 5: Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities Motorola's common stock is listed on the New York and Chicago Stock Exchanges. The number of stockholders of record of Motorola common stock on January 31, 2006 was 80,799. The remainder of the response to this Item incorporates by reference Note 15, ""Quarterly and Other Financial Data (unaudited)'' of the Notes to Consolidated Financial Statements appearing under ""Item 8: Financial Statements and Supplementary Data''. The following table provides information with respect to acquisitions by the Company of shares of its common stock during the quarter ended December 31, 2005. ISSUER PURCHASES OF EQUITY SECURITIES (d) Maximum Number (c) Total Number (or Approximate Dollar of Shares Purchased Value) of Shares that (a) Total Number (b) Average Price as Part of Publicly May Yet Be Purchased of Shares Paid per Announced Plans Under the Plans or Period Purchased(2) Share(2)(3) or Programs(1) Programs(1) 10/2/05 to 10/29/05 5,506,400 $21.16 5,506,400 $3,367,111,278 10/30/05 to 11/26/05 4,968,768 $22.59 4,947,700 $3,257,373,024 11/27/05 to 12/31/05 5,824,970 $23.26 5,503,500 $3,128,512,934 Total 16,300,138 $22.26 15,957,600 (1) On May 18, 2005, the Company announced that its Board of Directors authorized the Company to repurchase up to $4.0 billion of its outstanding shares of common stock over a 36-month period ending on May 31, 2008, subject to market conditions (the ""Stock Repurchase Program''). (2) In addition to purchases under the Stock Repurchase Program, included in this column are transactions under the Company's equity compensation plans involving the delivery to the Company of 342,415 shares of Motorola common stock to satisfy tax withholding obligations in connection with the vesting of restricted stock granted to Company employees and the surrender of 123 shares of Motorola common stock to pay the option exercise price in connection with the exercise of employee stock options. (3) Average price paid per share of stock repurchased under the Stock Repurchase Program is execution price, excluding commissions paid to brokers.


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    37 Item 6: Selected Financial Data Motorola, Inc. and Subsidiaries Five Year Financial Summary Years Ended December 31 (Dollars in millions, except as noted) 2005 2004 2003 2002 2001 Operating Results Net sales $ 36,843 $ 31,323 $ 23,155 $ 23,422 $ 26,468 Costs of sales 25,066 20,969 15,652 15,784 19,698 Gross margin 11,777 10,354 7,503 7,638 6,770 Selling, general and administrative expenses 3,859 3,714 3,285 3,835 4,279 Research and development expenditures 3,680 3,412 2,979 2,887 3,377 Other charges (income) (458) 96 (34) 1,359 3,336 Operating earnings (loss) 4,696 3,132 1,273 (443) (4,222) Other income (expense): Interest income (expense), net 71 (199) (294) (355) (390) Gains on sales of investments and businesses, net 1,861 460 539 81 1,931 Other (108) (141) (142) (1,354) (1,201) Total other income (expense) 1,824 120 103 (1,628) 340 Earnings (loss) from continuing operations before income taxes 6,520 3,252 1,376 (2,071) (3,882) Income tax expense (benefit) 1,921 1,061 448 (721) (876) Earnings (loss) from continuing operations 4,599 2,191 928 (1,350) (3,006) Loss from discontinued operations, net of tax (21) (659) (35) (1,135) (931) Net earnings (loss) $ 4,578 $ 1,532 $ 893 $ (2,485) $ (3,937) Per Share Data (in dollars) Diluted earnings (loss) from continuing operations per common share $ 1.82 $ 0.90 $ 0.39 $ (0.59) $ (1.36) Diluted earnings (loss) per common share 1.81 0.64 0.38 (1.09) (1.78) Diluted weighted average common shares outstanding (in millions) 2,527.0 2,472.0 2,351.2 2,282.3 2,213.3 Dividends paid per share $ 0.16 $ 0.16 $ 0.16 $ 0.16 $ 0.16 Balance Sheet Total assets $ 35,649 $ 30,922 $ 26,809 $ 31,233 $ 33,398 Long-term debt and redeemable preferred securities 3,806 4,581 7,159 7,660 8,769 Total debt and redeemable preferred securities 4,254 5,298 8,028 9,159 9,462 Total stockholders' equity 16,673 13,331 12,689 11,239 13,691 Other Data Capital expenditures $ 583 $ 494 $ 344 $ 387 $ 708 % of sales 1.6% 1.6% 1.5% 1.7% 2.7% Research and development expenditures $ 3,680 $ 3,412 $ 2,979 $ 2,887 $ 3,377 % of sales 10.0% 10.9% 12.9% 12.3% 12.8% Year-end employment (in thousands)* 69 68 88 97 111 * Employment decrease in 2004 primarily reflects the impact of the spin-off of Freescale Semiconductor.


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    MANAGEMENT'S DISCUSSION AND ANALYSIS 38 OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Item 7: Management's Discussion and Analysis of Financial Condition and Results of Operations The following is a discussion and analysis of our financial position and results of operations for each of the three years in the period ended December 31, 2005. This commentary should be read in conjunction with our consolidated financial statements and the notes thereto which appear beginning under ""Item 8: Financial Statements and Supplementary Data.'' Executive Overview What businesses are we in? Motorola reports financial results for the following four operating business segments: ‚ The Mobile Devices segment designs, manufactures, sells and services wireless handsets, with integrated software and accessory products. The segment's net sales in 2005 were $21.5 billion, representing 58% of the Company's consolidated net sales.* ‚ The Government and Enterprise Mobility Solutions segment designs, manufactures, sells, installs and services analog and digital two-way radio, voice and data communications products and systems to a wide range of public safety, government, utility, transportation and other worldwide markets, and participates in the expanding market for integrated information management, mobile and biometric applications and services. The segment also designs, manufactures and sells automotive electronics systems, as well as telematics systems that enable communication and advanced safety features for automobiles. The segment's net sales in 2005 were $6.6 billion, representing 18% of the Company's consolidated net sales.* ‚ The Networks segment designs, manufactures, sells, installs and services: (i) cellular infrastructure systems, including hardware and software, (ii) fiber-to-the-premise (""FTTP'') and fiber-to-the-node (""FTTN'') transmission systems supporting high-speed data, video and voice, and (iii) wireless broadband systems. In addition, the segment designs, manufactures, and sells embedded communications computing platforms. The segment's net sales in 2005 were $6.3 billion, representing 17% of the Company's consolidated net sales.* ‚ The Connected Home Solutions segment designs, manufactures and sells a wide variety of broadband products, including: (i) digital systems and set-top boxes for cable television, Internet Protocol (""IP'') video and broadcast networks, (ii) high speed data products, including cable modems and cable modem termination systems (""CMTS'') and IP-based telephony products, (iii) hybrid fiber coaxial network transmission systems used by cable television operators, (iv) digital satellite program distribution systems, (v) direct-to-home (""DTH'') satellite networks and private networks for business communications, and (vi) advanced video communications products. The segment's net sales in 2005 were $2.8 billion, representing 8% of the Company's consolidated net sales.* What were our 2005 financial highlights? ‚ Net Sales Increased 18%: Our net sales were $36.8 billion in 2005, up 18% from $31.3 billion in 2004. Sales increased in all four of our operating segments. ‚ Operating Earnings Increased 50%: We generated operating earnings of $4.7 billion in 2005, an increase of 50% compared to operating earnings of $3.1 billion in 2004. Operating margin increased to 12.7% in 2005, compared to 10.0% in 2004. ‚ Earnings From Continuing Operations Increased by 110%: We generated earnings from continuing operations of $4.6 billion in 2005, an increase of 110% compared to earnings from continuing operations of $2.2 billion in 2004. * When discussing the net sales of each of our four segments, we express the segment's net sales as a percentage of the Company's consolidated net sales. Because certain of our segments sell products to other Motorola businesses, our intracompany sales were eliminated as part of the consolidation process in 2005. As a result, the percentages of consolidated net sales for each of our business segments sums to greater than 100% of the Company's consolidated net sales.


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    MANAGEMENT'S DISCUSSION AND ANALYSIS 39 OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ‚ Earnings From Continuing Operations of $1.82 per Share: Our earnings from continuing operations per diluted common share were $1.82 in 2005, compared to earnings from continuing operations per diluted common share of $0.90 in 2004. ‚ Net Cash* Increased by $5.1 Billion: We increased our net cash position by $5.1 billion during 2005 and ended the year with a record net cash position of $10.5 billion. What drove the $2.4 billion increase in earnings from continuing operations? The key contributors to the substantial increase in earnings from continuing operations were: ‚ Gross Margin: A $1.4 billion increase in gross margin, primarily driven by the 18% increases in net sales. ‚ Recognized Gains on Sales of Investments and Businesses: A $1.4 billion increase in gains recognized on our equity investments, primarily due to a $1.3 billion net gain recognized when we received cash and shares of Sprint Nextel Corporation in exchange for our shares of Nextel Communications, Inc. (""Nextel'') when Sprint Corporation and Nextel completed their merger in August 2005. ‚ Other Income: A $554 million increase in other income, primarily due to $500 million received for the settlement of financial and legal claims against Telsim. ‚ Net Interest Income: A $270 million improvement in net interest income, primarily due to significantly lower levels of total debt in 2005 compared to 2004 and an increase in interest income due to higher average cash, cash equivalents and Sigma Funds at higher interest rates. What were the financial highlights for our four operating segments in 2005? ‚ In Mobile Devices: Net sales increased by $4.3 billion, or 25%, to $21.5 billion and operating earnings increased by 27% to $2.2 billion. We shipped 146 million handsets in 2005, up 40% from 2004 and solidified our position as the second largest worldwide supplier of wireless handsets with an estimated 18% global market share. The increase in unit shipments was attributed to an increase in the size of the total market and a gain in the segment's market share. The gain in market share reflected strong demand for GSM handsets and consumers' desire for the segment's compelling products that combine innovative style leading technology. The segment had increased net sales in all regions of the world as a result of an improved product portfolio, strong market growth in emerging markets, and high replacement sales in more mature markets. Average selling price (""ASP'') decreased approximately 10% compared to 2004, driven primarily by a higher percentage of lower-tier, lower-priced handsets in the overall sales mix. ‚ In Government and Enterprise Mobility Solutions: Net sales increased $369 million, or 6%, to $6.6 billion and operating earnings increased by 5% to $882, primarily due to increased sales to the segment's government and enterprise markets, partially offset by a decrease in sales to the automotive electronics market, reflecting weak automobile industry conditions. The increase in net sales in the government market was driven by customer spending on enhanced mission-critical communications and the continued focus on homeland security initiatives. The increase in net sales in the enterprise market reflects enterprise customers' demand for business-critical communications. The overall increase in net sales reflects net sales growth in the Americas and Asia. ‚ In Networks: Net sales increased $306 million, or 5%, to $6.3 billion and operating earnings increased by 38% to $990 million, primarily driven by increased customer purchases of cellular infrastructure equipment, as well as increased sales of wireless broadband systems and embedded computing communications systems. On a geographic basis, net sales increased in the Europe, Middle East and Africa region (""EMEA'') and North America, which offset lower sales in Asia and Latin America. The segment's 5% increase in net sales was reflective of the overall sales growth in the industry, yet resulted in a slight loss of market share for the segment. The 38% increase in operating earnings was primarily related to an increase in gross margin, which was due to: (i) the 5% increase in net sales, and (ii) improvements in cost structure. * Net Cash • Cash and cash equivalents ° Sigma Funds ° Short-term investments - Notes payable and current portion of long-term debt - Long-term Debt


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    MANAGEMENT'S DISCUSSION AND ANALYSIS 40 OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ‚ In Connected Home Solutions: Net sales increased $551 million, or 25%, to $2.8 billion and operating earnings increased by 27% to $185 million, primarily driven by increases in both ASP and unit shipments of digital set-top boxes. The segment experienced an increase in net sales in the North America, Latin America and Asia regions, which was partially offset by a slight decrease in net sales in the EMEA region. Net sales of digital set-top boxes increased 34%, driven by a product-mix shift towards higher-end products, particularly HD/DVR set-top boxes. The segment continued to be the worldwide leader in market share for digital cable set-top boxes. Net sales of cable modems increased 9%, primarily due to an increase in cable modem unit shipments, which was partially offset by the decline in ASP for cable modems. The segment retained its leading worldwide market share in cable modems. What were our other major accomplishments in 2005? In 2005, we were focused first and foremost on increasing profitable sales and growing market share. We realigned our structure to better enable our vision of seamless mobility, now serving our customers through four business units: Mobile Devices, Government and Enterprise Mobility Solutions, Networks and Connected Home Solutions. ‚ Mobile Devices: During 2005, Motorola expanded its global market share in mobile handsets to approximately 18%. The Company is a strong, profitable and growing #2. For example, during the year, Motorola grew unit shipments faster than the market and faster than all competitors. Motorola ended 2005 as the market-share leader in North America and Latin America, as the clear #2 in Europe, as the new #2 in North Asia, and as the rapidly growing #3 in the world's high-growth markets. In India, the Company announced a new distribution partnership with Bharti to expand and extend Motorola's reach to consumers. Around the world, Motorola is driving profitable and sustainable growth through a strategy that focuses on design and the ""re-invention'' of each of the six primary handset form factors: clamshell, candy bar, PDA, QWERTY, slider and rotator. Motorola launched this strategy at the end of 2004 with MOTORAZR, using the innovative clamshell design to strengthen the brand, and transformed 2005 into the ""Year of the RAZR''. RAZR is available worldwide across the leading mobile-interface technologies: GSM, GPRS, UMTS, CDMA 1X, EV-DO and Dual-Mode UMA. Additionally, Motorola built consumer excitement and demand for MOTORAZR with an expanding series of highly sought after fashionable colors from silver to black, blue, three shades of pink and the exclusive Dolce & Gabbana gold edition. Since its launch, Motorola has sold more than 23 million RAZRs. Motorola expanded the ultra-thin platform in 2005 to include an additional clamshell Ì the fashionable Motorola PEBL U6 and the game-changing candy-bar design known as SLVR. In addition to great design, Motorola is delivering compelling mobile experiences from mobile music and mobile imaging to mobile search and hands-free/wire-free seamless mobility. For example, during 2005, Motorola launched ""mobile music 1.0'' with Motorola ROKR E1 Ì the world's first iTunes-enabled mobile handset. The Company also created a new category of wireless wearables Ì joining forces with brands such as Burton for a Bluetooth- enabled, mobile music winter-sports jacket and with Oakley to create a new category of wireless, Bluetooth- enabled eyewear with MOTORAZR sunglasses. Additionally, Motorola is expanding to markets that have previously been underserved. In February 2005, the GSM Association (""GSMA'') named Motorola as its partner in the GSMA's drive to ""Connect the Unconnected'' with the Emerging Market Handset program. The program focuses on enabling economic and social development by providing affordable, high-quality access to mobile communications in such markets as India, the Philippines, Indonesia and Africa. By the end of 2006, Motorola and the GSMA expect to have connected more than 20 million people for whom wireless communications had previously been only an unaffordable and unattainable dream. ‚ Government and Enterprise Mobility Solutions: The Government and Enterprise Mobility Solutions business once again delivered solid results in 2005, solidifying its leadership in the markets it serves. Motorola remains the market leader in embedded telematics systems and is #1 in mission-critical wireless communications systems and two-way radio systems. In 2005, we introduced our first entry into the commercial, off-the-shelf rugged handheld mobile computing market. ‚ Networks: At our Networks business, Motorola maintained momentum in 2005 by delivering outstanding technologies and services for wireless and wireline carriers. The Networks business deployed push-to-


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    MANAGEMENT'S DISCUSSION AND ANALYSIS 41 OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS talk over cellular (""PoC'') technology for 44 wireless carriers in 33 countries and territories in 2005. Based on IMS technology, Motorola's PoC solution lays the foundation for further ""Push-To'' applications. Networks also introduced its MOTOwi4 product portfolio for unlicensed spectrum and WiMAX broadband solutions Ì designed to meet the different needs of operators for lower-cost delivery of data rich multimedia applications and services. ‚ Connected Home Solutions: The Connected Home Solutions business is the world's leading provider of digital video set-top boxes and cable modems. In 2005, Motorola shipped its 40 millionth digital video set- top box and its 30 millionth cable modem, both significant milestones. We shipped over 6.4 million set-top boxes in the year, almost half of which were high-definition TV (""HDTV'') capable, and 9 million cable modems, of which 1.6 million were voice-over-IP (""VoIP'') capable. Motorola also entered into joint ventures with Comcast for the development and licensing of next- generation conditional access technologies. We began implementing a multi-year contract to build Verizon's digital video network infrastructure and provide advanced consumer products, including the first digital set- top boxes to incorporate home media networking. We were named a set-top box supplier for AT&T's IPTV deployment, our digital video delivery platform was selected by VTR in Chile for the launch of digital cable services, and we launched a digital terrestrial television (""DTT'') set-top box for use in Europe. During 2005, Motorola was awarded the National Medal of Technology for its outstanding contributions to America's technological innovation and competitiveness over its more than 75-year history. The National Medal of Technology, established in 1980 by an act of Congress, is the highest honor awarded by the President to America's leading innovators. The award recognizes that since its founding in 1928, Motorola has stood on the cutting edge of innovation in areas such as two-way radios, cellular communication, paging, space flight communication, semiconductors and integrated, digital enhanced networks. As a result, the Company has helped establish entirely new industries and driven the phenomenal growth of mobile communications. Looking Forward In 2006, we will build upon our 2005 achievements with our continued commitment to quality and our unrelenting focus on innovation. We will continue to pursue profitable market share growth across all our businesses. We are focused on our seamless mobility strategy. Seamless mobility recognizes that the boundaries between work, home, entertainment and leisure continue to dissolve. As we move between different environments, devices and networks, seamless mobility will deliver fluid experiences across the home, vehicle, office and beyond. Motorola is a thought leader on digital convergence. As we develop seamless mobility, we remain committed to delivering compelling products in all our businesses. We will continue to build on the success of the MOTORAZR with ultra thin products, including the introduction of the QWERTY design known as the Q, in 2006. We will continue to invest in next-generation, mission-critical data, video and security, and mesh technology to enable us to offer the most compelling products to public-safety agencies and other government customers. We will continue to build our enterprise business by offering products that enable the mobile enterprise. We will continue to develop and offer next-generation infrastructure networks that enable the mobile Internet and lead us to a seamless world. 2006 will not be without challenges. We conduct our business in highly-competitive markets, facing new and established competitors. We also face technological and other industry challenges in developing seamless mobility products. Full digital convergence will require technological advancements and significant investment in research and development. The research and development of new, technologically advanced product is a complex process requiring high levels of innovations, as well as accurate anticipation of technological and market trends. During the year, we will continue to focus on improving the quality of our products and on enhancing our supply chain to ensure that we can meet customer demand and improve efficiency. However, we believe that despite these challenges, our seamless mobility strategy and our compelling products will result in a successful 2006.


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    MANAGEMENT'S DISCUSSION AND ANALYSIS 42 OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Results of Operations (Dollars in millions, except per share Years Ended December 31 amounts) 2005 % of sales 2004 % of sales 2003 % of sales Net sales $36,843 $31,323 $23,155 Costs of sales 25,066 68.0% 20,969 66.9% 15,652 67.6% Gross margin 11,777 32.0% 10,354 33.1% 7,503 32.4% Selling, general and administrative expenses 3,859 10.5% 3,714 11.9% 3,285 14.1% Research and development expenditures 3,680 10.0% 3,412 10.9% 2,979 12.9% Other charges(income) (458) (1.2)% 96 0.3% (34) (0.1)% Operating earnings 4,696 12.7% 3,132 10.0% 1,273 5.5% Other income (expense): Interest income (expense), net 71 0.2% (199) (0.6)% (294) (1.3)% Gains on sales of investments and businesses, net 1,861 5.1% 460 1.5% 539 2.3% Other (108) (0.3)% (141) (0.5)% (142) (0.6)% Earnings from continuing operations before income taxes 6,520 17.7% 3,252 10.4% 1,376 5.9% Income tax expense 1,921 5.2% 1,061 3.4% 448 1.9% Earnings from continuing operations 4,599 12.5% 2,191 7.0% 928 4.0% Loss from discontinued operations, net of tax (21) (0.1)% (659) (2.1)% (35) (0.1)% Net earnings $ 4,578 12.4% $ 1,532 4.9% $ 893 3.9% Earnings (loss) per diluted common share: Continuing operations $ 1.82 $ 0.90 $ 0.39 Discontinued operations (0.01) (0.26) (0.01) $ 1.81 $ 0.64 $ 0.38 Geographic market sales measured by the locale of the end customer as a percent of total net sales for 2005, 2004 and 2003 are as follows: Geographic Market Sales by Locale of End Customer 2005 2004 2003 United States 46% 47% 56% Europe 19% 19% 13% Latin America 10% 9% 8% Asia, excluding China 9% 10% 10% China 8% 10% 9% Other Markets 8% 5% 4% 100% 100% 100% Results of OperationsÌ2005 Compared to 2004 Net Sales Net sales were $36.8 billion in 2005, up 18% from $31.3 billion in 2004. Net sales increased in all four of the Company's segments in 2005 compared to 2004. The overall increase in net sales reflected: (i) a $4.3 billion increase in net sales by the Mobile Devices segment, driven by a 40% increase in unit shipments, reflecting strong demand for GSM handsets and consumers' desire for the segment's compelling products that combine innovative style and leading technology, (ii) a $551 million increase in net sales by the Connected Home Solutions segment, primarily driven by increases in both average selling price (""ASP'') and unit shipments of digital set-top boxes, (iii) a $369 million increase in net sales by the Government and Enterprise Mobility Solutions segment, reflecting increased sales to the segment's government and enterprise markets, partially offset by a decrease in sales to the


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    MANAGEMENT'S DISCUSSION AND ANALYSIS 43 OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS automotive electronics market, and (iv) a $306 million increase in net sales by the Networks segment, driven by increased customer purchases of cellular infrastructure equipment, as well as increased sales of wireless broadband systems and embedded computing communications systems. Gross Margin Gross margin was $11.8 billion, or 32.0% of net sales, in 2005, compared to $10.4 billion, or 33.1% of net sales, in 2004. Two of the Company's four operating segments had a decrease in gross margin as a percentage of net sales: (i) Mobile Devices, primarily due to a higher percentage of lower-tier, lower-priced, lower margin handsets in the overall sales mix and a charge for past use of Kodak intellectual property, and (ii) Connected Home Solutions, primarily due to increased sales of high-definition digital video recording (""HD/DVR'') products, which carry lower margins. These changes in gross margin percentage were partially offset by increased gross margin as a percentage of net sales by Networks, primarily due to the increase in net sales and cost savings from improvements in supply-chain management. Gross margin as a percentage of net sales was relatively flat in 2005 compared to 2004 for the Government and Enterprise Mobility Solutions segment. The Company's overall gross margin as a percentage of net sales can be impacted by the proportion of overall net sales generated by its various businesses. The decrease in overall gross margin as a percentage of net sales in 2005 compared to 2004 can be partially attributed to the fact that an increased percentage of the Company's net sales were generated by the Mobile Devices and Connected Home Solutions segments, two segments that generate lower gross margins than the overall Company average. Selling, General and Administrative Expenses Selling, general and administrative (""SG&A'') expenditures increased 4% to $3.9 billion, or 10.5% of net sales, in 2005, compared to $3.7 billion, or 11.9% of net sales, in 2004. All four of the Company's segments had increased SG&A expenditures in 2005 compared to 2004. These increases in SG&A for the segments were offset by a decrease in SG&A expenditures related to corporate functions. The increase in SG&A expenditures in 2005 compared to 2004 was due to: (i) increased advertising and promotional expenditures in Mobile Devices to support higher sales and promote brand awareness, (ii) increased selling and sales support expenditures in all four operating segments, driven by the increase in sales commissions resulting from the increase in net sales, and (iii) increased marketing expenditures in three of the four of the segments. SG&A expenditures as a percentage of net sales decreased in two of the four segments. Research and Development Expenditures Research and development (""R&D'') expenditures increased 8% to $3.7 billion, or 10.0% of net sales, in 2005, compared to $3.4 billion, or 10.9% of net sales, in 2004. All four of the Company's segments had increased R&D expenditures in 2005 compared to 2004, although R&D expenditures as percentage of net sales decreased in three of the four segments. The increase in R&D expenditures was primarily due to developmental engineering expenditures for new product development and investment in next-generation technologies across all segments. Other Charges (Income) The Company recorded net Other income of $458 million in Other charges (income) in 2005, compared to net charges of $96 million in 2004. The net other income of $458 million in 2005 primarily consisted of $500 million in income from the settlement of financial and legal claims against Telsim. This item was partially offset by a $66 million net charge for reorganization of businesses. The reorganization of businesses costs are discussed in further detail in the ""Reorganization of Businesses'' section below. The net charges of $96 million in 2004 primarily consisted of: (i) a $125 million charge for goodwill impairment, related to the sensor business that was divested in 2005, and (ii) $34 million of charges for in-process research and development. These items were partially offset by: (i) $44 million in income from the reversal of financing receivable reserves due to the partial collection of the previously-uncollected receivable from Telsim, and (ii) $15 million in net reorganization of businesses reversals for reserves no longer needed. The reorganization of businesses costs are discussed in further detail in the ""Reorganization of Businesses'' section below.

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